Real estate is a significant piece of the investing puzzle. For most Americans, their real estate investment is their home. This makes sense; a home is the most expensive investment most Americans make. Some Americans have rental properties, which allow them to capture recurring income through rent payments and market appreciation of investment properties.
However, commercial real estate investments, such as office buildings, self-storage units, and multi-family residential properties, may be the whipped cream on that slice of real estate pie. Until the passage of the 2012 JOBS (Jumpstart Our Business Startups) Act, most Americans were precluded from commercial real estate investing. Commercial real estate is expensive, and most Americans don’t have an extra $50,000 to a few million dollars to invest.
The 2012 JOBS Act gave "accredited investors" access to real estate investments through crowdfunding. An accredited investor is someone with an annual income of $200,000 or more, $300,000 or more for couples, for the last two years or has a net worth of $1 million. Gaining access to real estate markets via peer-to-peer lending has made investing in commercial real estate easier for accredited investors.
Recently, the Securities & Exchange Commission (SEC) approved access to real estate crowdfunding with limitations to non-accredited investors, so now more Americans can invest in commercial properties. But, why would they want to and what should they know?
What is real estate crowdfunding?
Through websites such as Kickstarter, which let entrepreneurs and creatives solicit funding from investors, and initiatives on GoFundMe to help someone in need of medical help or for a legal matter, by now most of us are familiar with crowdfunding. Crowdfunding creates markets that connect people who need money with people who have money.
Often the people with money are looking for a return on their investment, such as participating in "one-of-a-kind experiences, limited editions, or copies of the creative work being produced", as is typically the case with Kickstarter campaigns. Sometimes they donate money for any number of reasons without the expectation of a return on their investment. Donations are typical campaigns for GoFundMe.
Real estate crowdfunding sites such as RealtyShares, RealCrowd, and RealtyMogul are more like Kickstarter than GoFundMe. Investors pay money with numerous other investors to invest in a property. The number of investors is contingent on the number needed to meet the purchase price, as each investor may contribute different amounts.
Why would I want to crowdfund real estate?
Institutional investors, such as banks, mutual fund companies, and college endowments, have long known the value of commercial real estate investing. Therefore, they commonly invest up to 10% of their portfolio in commercial real estate.
The various assets classes, such as stocks, bonds, and real estate, don’t move in tandem. The different markets within each asset class, such as small capitalization stocks and large capitalization stocks within the equities market, don’t always go the same direction. Consequently, financial services professionals stress the need for diversification. Diversification reduces risk in an investment portfolio and opens investors up to investment opportunities. The combination of the 2012 JOBS Act and the recent SEC ruling now gives more investors exposure to more markets.
As RealtyShares CEO Nav Athwal says, "Real estate investing has traditionally been hyperlocal. RealtyShares and other investment marketplaces like ours have helped to remove the barriers to access that made diversifying inefficient. We've created an ecosystem where investors can take part in a variety of commercial and residential deals in their backyard or across the country. That not only allows you to diversify your portfolio, but it also allows you to diversify your property holdings."
Specific to commercial real estate, the historical returns typically outperform the overall equities markets with less volatility. The reason is that leases for commercial real estate investments are usually longer than residential leases. Likewise, with multi-family residential properties, loss of income from one vacancy is balanced by the revenue from the remaining units. For example, if a multi-family residential property with five units has one vacancy, the income from the other four units helps withstand the loss.
With the 2012 JOBS Act and the recent SEC ruling, real estate crowdfunding is now investor friendly. After qualification, the minimum investment requirements of $1,000 to $5,000 for most companies such as RealtyMogul and RealtyShares, is now accessible.
What should I know about crowdfunding real estate?
No investment, whether it’s cash or real estate crowdfunding, is without risk. Real estate crowdfunding is still in its infancy. The SEC has paved the way for more investors to participate in this market, but that doesn’t mean it’ll be without its growing pains. It’s a new market still in its "hype phase," and some real estate crowdfunding companies are better equipped to provide value and reduce risk than others. Therefore, caution should be your guide.
It’s also important to note that real estate crowdfunding investments aren’t liquid. Cash in a bank account can be accessed same-day. Money in stock can be received within a few days after selling shares of that stock (sooner shortly).
Crowdfunded real estate investments have less liquidity than most investment. All markets require a buyer and seller. As accessible as commercial real estate investments are becoming, there are still fewer commercial real estate investors than stock market investors. Because of the complexities of real estate investing, investors can’t access their money without a "’liquidity event,’ typically refinancing or sale."
Accredited investors may invest in crowdfunded real estate investments as they wish. The SEC did approve non-accredited investors but with limitations:
If either your annual income or your net worth is less than $107,000, then during any 12-month period, you can invest up to the greater of either $2,200 or 5% of the lesser of your annual income or net worth.
If both your annual income and your net worth are equal to or more than $107,000, then during any 12-month period, you can invest up to 10% of annual income or net worth, whichever is lesser, but not to exceed $107,000.
How do I crowdfund real estate?
If you’re interested in real estate crowdfunding, first research and fully understand what real estate crowdfunding is and its risks. Never invest in anything without fully understanding it first. Consider this article a primer. If it’s piqued your interest, continue your research until you can explain real estate crowdfunding to a friend or relative and answer their questions.
There are currently over 100 real estate crowdfunding sites with more companies eagerly entering the market. Finding the right company for you may seem impossible. Thankfully, Real Estate Crowdfunding Review ranks and reviews these companies, making your searches easier. That said, the ultimate responsibility is on you, the investor.
As Athwal says, "Greater awareness, and as a result continued growth, will be the biggest catalyst of change over the next five years. We recently released a report that found only 2 percent of Americans are very familiar with real estate crowdfunding, a surprising stat considering it has grown to a $3.5 billion industry, but also a strong indication that we have only dipped our toes into the massive real estate market."
If you want to diversify your investment portfolio and want to mirror institutional investors, real estate crowdfunding may be a fit for you. Just know what you’re getting into and invest according to your investment goals, objectives, and risk tolerance.