Real estate investing is a strategic way to diversify your portfolio while creating a secondary income stream.
Historically, participating in private real estate deals was all about who you knew but real estate crowdfunding has changed things in a big way. With the passage of the JOBS Act and the SEC’s recent Title III ruling, accredited and non-accredited investors now have a new way to gain entry to this asset class.
Real Estate Crowdfunding Basics
Real estate crowdfunding involves the pooling of funds by multiple investors in a real estate project. There are two main investment types to choose from:
- Equity investments
Investors make investments in commercial or residential properties and in exchange, they hold an equity stake in the property. Each investor shares in a portion of the rental income the property generates.
- Debt investments
Specifically, this means investing in a mortgage loan associated with a particular property. As the loan is repaid, the investor receives a share of the interest.
Between the two, equity investments offer the potential for bigger returns because the profitability of debt investments is limited by the loan’s interest rate. On the other hand, equity investments are riskier and they typically require a longer holding period.
What Investors Actually Own
Real estate crowdfunding platforms can vary widely in terms of how investments are structured and that affects what an investor owns.
RealtyShares, for example, creates a separated limited liability company (LLC) for each equity investment opportunity. The LLC holds an interest in the entity that owns the real estate at the center of the investment. Investors own shares in the LLC, giving them limited liability as well as certain tax benefits associated with pass-through entities.
With debt and certain preferred equity investments, the investment is made in payment dependent notes belonging to RealtyShares subsidiaries. The notes are tied to the performance of a real estate loan or project investment made by an individual subsidiary. Investors have ownership in the note itself.
Benefits for Investors
Compared to investing in a real estate investment trust (REIT) or purchasing a rental property, real estate crowdfunding offers certain advantages, including:
- Increased transparency
With a REIT, information about the underlying investment may be limited which can make it more difficult to gauge whether the deal is sound. RealtyShares thoroughly vets each deal beforehand so that investors have as much information as possible to aid in decision-making.
Traditionally, investing in private real estate mean bringing tens of thousands of dollars to the table to participate. With real estate crowdfunding the bar is much lower. RealtyShares, for example, offers deals with a $5,000 minimum.
Between debt and equity investments in both commercial and residential properties and real estate funds, investors have the opportunity to gain exposure to a new asset class.
- Tax benefits
Real estate crowdfunding allows investors to benefit from certain tax breaks, such as depreciation, that normally apply to owning an investment property. Check our guide: Top 15 Tax Deductions for Landlords
Investing in Real Estate Crowdfunding Best Practices
Here are some practical tips for making sure that your real estate crowdfunding experience goes as smoothly as possible:
- Choose your platform carefully
Every real estate crowdfunding platform is different and some may be a better fit than others. Researching the various platforms to identify their strengths and weaknesses is an important first step for investors.
- Review investments yourself
Real estate crowdfunding platforms are not investment advisors and while many platforms vet deals before offering them to investors, not all of them do. Talking over the details of a specific deal with a financial advisor or fiduciary can help you pinpoint any potential issues.
- Keep an eye on liquidity
Real estate has very different liquidity schedules as well as unique return profiles for each individual investment. Understanding how long you stand to be locked into a deal is vital when making investment decisions.
- Don’t overlook risk
Investing in real estate is a good way to diversify your holdings but it’s also necessary to diversify your risk as well. Weighing the potential returns against the projected risk can help you determine whether debt or equity investments are more appropriate.
Real Estate Crowdfunding for Borrowers
Real estate crowdfunding offers certain rewards to borrowers who need funding to complete a development project. For instance, it’s possible to with new investors and gain access to capital with fewer hurdles, all within a shorter time frame.
There’s also an advantage in terms of cost. Online platforms may have lower overhead compared to a bank, which can translate to fewer fees and lower interest rates for borrowers. Finally, real estate crowdfunding platforms have the ability to be more flexible in terms of the types of properties they’re able list to investors and the kinds of financing they offer.
How to Raise Capital Through Crowdfunding
Raising capital for a real estate project is much easier when investors choose an established, experienced platform like RealtyShares to facilitate the crowdfunding process. Here’s what that typically entails:
- Pick a Platform
The most popular and leading platforms are RealtyShares, RealtyMogul, iFunding, Patch of Land
- Submit an Application
By providing the platform with information about the real estate opportunity via an online application form, they are able to review the opportunity and quickly begin the process.
- Get Approval
Once approved, additional information will be requested about the project and a background and credit check will be run on the principals of the sponsoring real estate company. For equity projects, any draft offering memorandum that might be available will be requested and for debt financings, the renovation plan and budget will be requested.
- Attract Investors
Next, the opportunity is presented to the platform’s accredited investors to gain attention and capital for the project.
- Raise Capital
While each investment opportunity is unique, the time it takes to complete funding for an investment opportunity is difficult to predict. Debt investments can sometimes fund quite quickly, often within 24 hours, while equity investments involving longer hold periods typically take somewhat longer to fund, often a few weeks.
- Approved Funding
After commitments have been received, the remainder of the process can take up to 5 additional days for funds to clear.
Top Platforms for Real Estate Crowdfunding
One of the most important factors that borrowers and investors should consider when choosing a real estate crowdfunding platform is the quality of the overall experience it provides. Here are three real estate crowdfunding platforms investors should consider:
- RealtyShares is one of several tech-enabled platforms that requires a minimum investment of only $5k. We provide an arena where accredited investors can browse a marketplace of pre-screened residential, commercial, retail and mixed-use properties. At the same time, borrowers can have their projects presented to accredited investors through the platform, fast-tracking the process of raising capital.
- RealtyMogul connects accredited and institutional investors with a broad range of debt and equity real estate investments. The company also provides debt and equity financing for borrowers. Like RealtyShares, RealtyMogul also features a $5,000 minimum investment.
- iFunding offers commercial retail and single family residential projects with a minimum investment of $5,000. Borrowers can also utilize this platform to work with professionals who can help to approve, list and quickly raise capital for a deal.
- Patch of Land is a Peer-to-Real-Estate lending marketplace that matches accredited and institutional investors seeking high-yield, short-term, asset-collateralized investments to borrowers seeking more timely and consistent sources of funding for rehabbing properties across America.
Real estate crowdfunding has established itself as a major game changer where the larger real estate industry is concerned.
By introducing tech-based solutions and removing some of the most challenging barriers to real estate investing, crowdfunding is opening new doors for investors and borrowers alike.
Share Your Experiences
What experiences do you have with crowdfunding in real estate? I’d love to know in the comments below!