Real estate crowdfunding is a way to become involved in investing in real estate that's easy enough for total beginners.
If you are interested in the benefits of a passive income from real estate, but not in the cost and workload of buying and managing rental properties, then real estate crowdfunding could be a good fit for you.
What is real estate crowdfunding?
Fun fact: Real estate crowdfunding has been legal in its current state since 2012.
This is when Congress passed the Jumpstart Our Business Startups (JOBS) Act. The JOBS Act is a law intended to encourage the funding of small businesses in the United States. It does this by lessening securities regulations.
In crowdfunding, real estate investors can individually select each property they wish to invest in. This allows investors to be more selective—working on a project-by-project basis—and therefore build a custom portfolio aligned to their specific investment objectives.
Crowdfunding platforms also give individual investors the opportunity to invest in certain real estate markets that were previously off limits, like commercial real estate.
For example, an individual might be able to come up with, say $50,000 to invest in an apartment building worth $500,000. But a $50 million apartment complex? Forget about it.
Real Estate Crowdfunding vs. REIT
A real estate investment trust, sometimes called a REIT, is a company that owns, operates, or finances income-producing real estate.
Most REITs are actually tax breaks for corporations. But they're also good for potential investors. This is because, in order to qualify, REITs must distribute at least 90% of their profits back to the shareholders.
However, most REITs are complicated and the lay investor must complete his due diligence in order to reap any of the benefits. To get around this, many people choose to invest in REITs through mutual funds in order to increase their net worth.
REITS are similar to crowdfunding in that if a person would like to invest in some real estate, but does not want to actually own or maintain the building, he can still become a shareholder through a crowdfunding company.
However, the biggest issue that many investors have with REITs is that the funds generally have higher expenses. Because the portfolios can be a little bit more complicated, they come with large maintenance costs. This translates into a lower rate of return for the investor.
Different Types of Real Estate Crowdfunding
There are many different types of crowdfunding. Here are the most common types and how they work.
This is sometimes known as peer-to-peer lending or loan-based lending. Debt crowdfunding is a way for businesses to borrow money. Basically, it follows the same process as the traditional model of applying to a bank for a business loan—except instead of a bank, you're working with accredited investors.
Equity crowdfunding is a part of capital markets. It is the online offering of a private company’s securities to a group of people for investment. It allows crowdfunders to fund startup companies and small businesses in return for equity in the companies.
Regulation A+ vs. 506(c) Crowdfunding
Regulation A is a product of the JOBs Act.
It is an exception that allows companies to avoid registering their securities with the SEC up to $20 million with Tier 1 and up to $50 million with Tier 2. It is marketable to all investors, regardless of channel. Regulation A is limited to US and Canadian companies that have not been previously registered with the SEC.
It is different from 506(c) crowdfunding in that Reg A is for more established companies looking to use the capital for growth. 506(c) crowdfunding is for companies that are just getting started.
What types of projects get crowdfunded?
Real estate crowdfunding is really taking off.
You can invest in apartment buildings and blocks, as well as commercial real estate, like shopping malls and other commerce centers. Investors from all walks of life and income ranges are participating.
Benefits and Risks of Being a Real Estate Crowdfunder
One of the main benefits of being a funder is that there is no minimum investment. Investors can become equity partners in a deal that would typically be only for people who personally knew the deal sponsor. And, even then, would need a five- or six-figure initial buy-in. With crowdfunding, you can invest only $1,000 if you want to.
If you are looking to increase your cash flow, then making a crowdfunding investment would be a good choice. However, like all investments, there is always a risk that the deal will go south and you lose your money.
The Benefits and Risks of Crowdfunding Your Real Estate Purchase
If you are a real estate developer and are interested in crowdfunding your project, the benefits are plenty. It means that you have access to a wider number of potential investors and the possibility of securing the capital you need more quickly than if you take the typical route.
As for risks, they're the same as working with traditional investors. It is possible that you could clash in your vision for the project, or that because so many people are funding the purchase, their visions could clash with each other.
Best Sites for Real Estate Crowdfunding
Be sure to look at the overall stability of a crowdfunding platform before investing.
While real estate crowdfunding is still a relatively new industry, you should still pick a company that is a few years old rather than one that is brand new. Always ask questions and research multiple platforms before making your final choice.
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