This article was written by Darren Powderly, CCIM
High-profile Kickstarter campaigns – from more than $10 million in funding for the Coolest Cooler to $43,000 for potato salad – are shining a spotlight on the trend of crowdfunding. While crowdfunding has been primarily focused on new products and has given entrepreneurs the opportunity to pursue their dreams, it wasn’t until recently that it could be leveraged for certain business ventures, such as real estate.
The Defining Moment
The catalyst that launched crowdfunding for real estate investments, along with other types of business ventures, was the passage of the Jumpstart Our Business Startups (JOBS) Act in 2012. Before that, there were severe restrictions on the ability to advertise and solicit investors for real estate investments. The JOBS Act dramatically changed the way investment capital can now be raised by modifying existing rules that pertained to how companies can offer and sell their securities without having to register the securities with the U.S. Securities and Exchange Commission (SEC).
In the past, restrictions were placed on fundraising efforts – specifically limiting fundraising to only pre-existing relationships and preventing a sponsor or other party from openly soliciting or advertising those private investment opportunities. The new rules, which took effect about a year ago, however, allow issuers, sponsors, syndicators and others seeking to raise capital to be able to advertise those private investment opportunities to accredited investors under certain conditions.
Now, that investors can participate in crowdfunding for real estate investments, it’s important to understand the type of investment you’ll be making, the platform on which you’ll use to invest, the risks involved, and the importance of trust as part of the equation. In this article, we’ll look at four tips that can help you develop a strong strategy for investing in real estate opportunities via crowdfunding.
Tip 1: Choose the Type of Crowdfunding that Works Best for You
There two primary categories of crowdfunding in the real estate market: lending-based and equity-based.
With lending-based offerings, a real estate sponsor/operator raises money in the form of debt (first or second mortgages) for a property and repays the investor’s principal and interest over time with a specified interest rate.
Equity-based offerings are structured in the form of preferred or common equity where the investors return is driven by the properties performance. If the property outperforms the plan, the investor participates in the upside and conversely if the property under-performs the plan, the investor returns fail to meet the target returns on investment.
Most real estate sponsors are raising money for a specific property, so the advertised returns are tied to the performance of that individual property. However, real estate fund managers are also using equity crowdfunding to supplement their traditional fundraising efforts. Real estate sponsors and fund managers look to crowdfunding as a way to accelerate their fundraising efforts and expand their investor networks.
Tip 2: Understand How Your Crowdfunding Platform Works
Investors leverage real estate crowdfunding platforms to gain access to deal flow that was previously unavailable. A quality platform will present you with multiple real estate opportunities in a transparent, easy-to-understand format that gives you accurate information on the sponsor, the property/fund and the business plan, including projected financial returns.
For the first time ever, you will have direct access to a selection of private real estate offerings where you can browse, research and make well-informed investment decisions online. Similar to the way online brokerage firms like Charles Schwab revolutionized stock and bond investing in the 1990’s, real estate crowdfunding platforms are revolutionizing real estate investing today.
From your perspective as an investor, you should take care to research the platforms on which you are searching for investment opportunities. Not all platforms are created equal and multiple business plans are being tested in order to capitalize on this emerging trend. It’s essential to investigate the founders and senior management of the crowdfunding platform to make sure they have a strong reputation built upon their previous business experience. Expertise in finance, real estate and technology is essential to operate a trusted and reliable platform.
You also should make sure that your platform delivers excellent customer service not only during the fundraising process, but also after the deal is fully funded and closed. Before you invest, you need to research multiple platforms and select your top three based on your investment goals and preferred user experience.
Be sure to find a platform that is:
– Easy to use;
– Thoroughly vets offers and sponsors using rigorous selection criteria;
– Selects only the best offerings from the best real estate developers and operators;
– Enables you to search for investments that match your interests, using criteria such as product type, geographic region or risk allocation;
– Allows you to centrally review investment details and financial projections;
– Gives you the ability to manage offers, track investments performance and build a commercial real estate portfolio, all from a centralized interface; and
– Free to utilize for investors.
Tip 3: Be Aware of the Risks
There are some significant risks involved with real estate investing. Look for crowdfunding platforms and sponsors that acknowledge the risks and provide an education-based approach to risk management. Most real estate crowdfunding platforms today only permit accredited investors, as defined by the SEC, to invest. Accredited investors are advised to invest amounts that they are comfortable with given their overall investment portfolio. For more information about how to become an accredited investor, check out this article.
Tip 4: Invest in Sponsors You Trust
You should only invest in offerings from sponsors that you trust and that you’re confident will look out for your best interest in good times and bad. You need to fully understand the offerings you invest in and be sure they meet your investment goals.
If you do not understand how your money is being used, the risk factors of the investment and what factors influence you return on investment, then you should seek the advice of their trusted investment advisor or pass on the investment. There will be plenty of other investment opportunities to choose from, so you shouldn’t feel rushed into making an uninformed investment decision.
A professional real estate crowdfunding platform should provide you with ample opportunities to communicate about the offering, including making introductions directly to the sponsor of the particular property listing.
By considering these four tips as you begin investing in real estate, or continue building your current portfolio, you will be able to develop a strong strategy for benefiting from the crowdfunding revolution.
About the Author
Darren Powderly is co-founder and VP of Real Estate for CrowdStreet, a real estate crowdfunding marketplace connecting accredited investors with institutional-grade investments, which recently launched an income investment opportunity for EverWest Real Estate Partners. Darren, who is a CCIM designee and recognized expert in investment real estate, previously served as president of Compass Commercial, a leading Pacific Northwest full-service commercial real estate company.
