Crowdfunding basics

Crowdfunding allows small time investors to fund large projects. It refers to a group of people who pool their money together to achieve a common goal. Crowdfunding can have various applications, and real-estate crowdfunding is relatively new. It involves several investors who each contribute a sum of money to a specific real estate deal. In a little more than a decade crowdfunding became a vital source of funding for sponsors who finance their ventures by attracting investors. There are key roles in crowdfunding projects, such as sponsors who identify an investment plan, crowdfunding platform that is an intermediate between investors and sponsors, and investors. 

The sponsor will facilitate the purchase of the asset, take care of financing and be responsible for the eventual sale of the property. Often deal sponsors participate financially in project funding themselves and receive a certain amount of profit. 

A crowdfunding platform is where a sponsor finds investors for the project. The platform deals with regulatory issues, advertises the deal to the potential investors and ensures that these investors meet particular requirements for the investment. Generally speaking, these platforms bring sponsors and investors together. 

Investors contribute a sum of money in exchange for a share of profits the deal yields. The investor may be entitled to income distributions in addition to the proportionate share from the final sale. 

Crowdfunding has become very popular over the last few years, as there is a lot of money to be made on the lucrative crowdfunding deals. The investing platform called CrowdStreet announced over 300 crowdfunded investment opportunities throughout the last five years and only 17 of them had been “realized”, which means that the property was sold or investors cashed out in another way. Among those 17 investments, only one brought losses for investors, the rest resulted in increased IRR. With the outcome like that it should be quite obvious why these investments attract more and more investors. 

You should take into consideration certain pros and cons before deciding whether crowdfunding is for you. Let us start with advantages that crowdfunding has, and then we will proceed to potential disadvantages. 

  • The advantages of crowdfunded real estate investing.
    • The potential returns are much higher than you would expect from any other major asset class. It is a common practice to see IRR more than 20%.
    • It is a great opportunity to diversify your portfolio with real estate crowdfunding. It applies mostly to people whose assets are invested in stocks and bonds. 
    • Crowdfunding provides an opportunity to benefit from the potential of single-property investment without having to deal with actually being a landlord.
    • Crowdfunding allows investments in assets that would be inaccessible to you otherwise. Unless you are a wealthy developer, you wouldn’t think about buying a whole apartment building or an office tower. 
    • The majority of crowdfunding ventures deal with a specific property, unlike REITs, which as a rule have a portfolio of different properties. 
    • Usually, crowdfunded property investments have an income element in addition to a targeted large sum return at the end of the investment period. 
  • The disadvantages of crowdfunded real estate investing. 
    • Crowdfunding is a high-risk and high return type of investment. There is a lot of execution risk involved, in addition to the risk of investing in a single property.
    • Crowdfunded real estate investments are not liquid. Once you have invested a sum of money, you are committed for the duration. Unlike owning a property when you can decide to sell your property at any time. 

There is no perfect answer to the question whether real estate crowdfunding is for you. However, there is a large variety within the crowdfunded real estate industry in terms of time commitment, risk tolerance and other factors, so be sure you can find a project that will suit your preferences.