Real estate crowdfunding is an innovative way for developers to combine their financial and intellectual capital and invest in assets and developments far bigger than they may afford or handle on their own. Real estate crowdfunding burst on the scene following the passage of the 2012 JOBS Act.
While real estate syndication has been around for decades, until recently and before crowdfunding, it was difficult for individual investors to access syndicated investment. Only ultra-high net worth investors or institutional investors with hundreds of millions, if not billions, of money will be able to take part and make a return.
Real estate crowdfunding firms like Fundrise (for non-certified investors) and CrowdStreet (mainly for accredited investors) offer exposure to mid-market commercial real estate opportunities that have generated above-average real estate returns for decades.
That’s why so many investors, like me, are enthusiastic about the rising crowdfunding space in real estate. I actually spent $810,000 in crowdfunding real estate as of 2019.
How Does Real Estate Crowdfunding Work?
Real estate crowdfunding (Syndication) is a partnership between the Sponsor, who designs, establishes and manages a real estate initiative, and a group of investors, you and I. Check out the graphic below that illustrates the operation.
Real estate crowdfunding is an innovative way for developers to combine their financial and creative capital to invest in assets and developments considerably bigger than they may afford or handle on their own.
The fundamentals of crowdfunding real estate aren’t all that far from two guys opening a bar together. As the manager and operator of the contract, the Sponsor spends sweat equity, including property searching, marketing, and the purchase and administration of day-to-day investment property activities, while the investors give much of the financial resources.
The Sponsor is typically responsible for spending between 5-20 percent of the total capital required, while investors pay for between 80-95 percent of the total capital needed. Obviously, the more the sponsor will invest in the house, the better for investors, as they like to have as much “cash in the game” as possible.
Syndications are easy to set up and have built-in protections for both parties. They are typically organized as a limited liability company or a joint partnership with the owner serving as a general partner or promoter and the investors involved as limited partners or passive participants. Such LLCs are often often referred to as Special Purpose Vehicles, because the crowdfunding real estate company and the product backers have NO claim on such SPVs or LLCs.
The interests of the Sponsor and Investors, including distribution rights, voting rights and the Sponsor’s access to investment management commissions, are set out in the LLC Operating Agreement or the LP Partnership Agreement.
Real Estate Crowdfunding Gains
Profits are made by rental income and land development and selling.
Rental profits from a syndicated property shall be paid to the sponsor’s investors on a monthly or quarterly basis on a fixed basis. The valuation of a property is typically measured over time, and investors can pay higher rentals and make greater gains before the property is sold.
Payment depends on the time the investment takes to mature; some forms of union are completed within 6-12 months, while some may take 7-10 years. All who contribute get a share of the profits.
The Sponsor will suggest an exit target date, but those target dates are just approximate guesses. Unless the goal date so happens to be in the middle of the bear market, it may be wise to carry on keeping and receiving the rent until the process shifts.
In the outset of the deal, the Seller may receive an overall purchase fee of 1% (although it can be anything from .5% to 2% based on the transaction). Before a Sponsor invests in gains for his or her role as a manager and promoter, all investors earn what is considered a ‘preferred return.’ The preferred return is a benchmark payout allocated to all investors, and is typically around 5-10 percent of the original money spent annually.
Below is my real estate crowdfunding dashboard where I’m keeping $810,000 on the RealtyMogul platform.
An Example Of A Real Estate Crowdfunding Investment
Real estate crowdfunding projects are designed in such a manner that the sponsor is empowered to ensure that the project performs well for everyone. Let’s take a look at the example of a desired return.
If you’re a passive investor who spends $100,000 in a 10% preferred return deal, you could take home $10,000 a year until the property has received enough money to make payments possible.
After each investor gets a desired return, the remaining money is divided between the Sponsor and the investors on the basis of the income distribution arrangement of the syndication.
If, for example, the benefit distribution arrangement is 70/30 — investors net 70 percent of gains after earning their preferred returns and the sponsor nets 30 percent after the preferred return.
For eg, once everyone receives their desired return in the 70/30 deal and the remaining 1 million is now here, the investors will receive 700k and the Sponsor will receive 300k.
Real Estate Crowdfunding Figures
- More than 60,000 participants invested in syndications in 2019.
- The total scale of the property offering was 2.3 million.
- Passive investors accounted for 80-95 percent of the initial capital investment
- Promoters accounted for 5-20 percent of the initial capital investment
- Investors earned a preferred return of 5-10 percent.
- The average preferred return was 8%.
- Sponsors paid an investment fee of between .5 and 2 percent. The average purchase fee was 1%.
- Sponsors charged a land maintenance tax of between 2 and 9 percent.
Real Estate Crowdfunding Progress
Before internet, real estate syndication allowed potential investors to set up a network of syndicate partners to locate trustworthy, lucrative opportunities to buy shares.
Like the two guys opening a bar together, the guy with the bar experience had to face the guy with the money, and vice versa. Speed up a few years and things have changed for real estate syndications, with the aid of the internet and the introduction of crowdfunding.
Real estate crowdfunding provides insight to the financial basics of a transaction and allows it possible for qualified investors to buy shares by using the traditional country-club style of small talk and caddy payments.
Crowdfunding is a way to collect funds over the Internet for a major project with the support of a ‘crowd’ of supporters; if a project receives enough funding, it’s a ‘go’ and if not, the funds are returned to investors.
Crowdfunded real estate syndications are more available, have lower investment minimums and deliver a variety of online project data to prospective buyers.
Fundrise Growth And Success
According to the new public offering documentation from Fundrise to its IPO, the company holds nearly $488 million in funds under administration, has 63,271 committed customers and 76 people as staff. Their AUM rise and the investor’s signups have been really positive.
Fundrise’s five-year average index portfolio did very well, delivering a 10.79 percent return on Vanguard’s Total Stock Market ETF and 7.4 percent on Vanguard’s Real Estate ETF. Their huge 14 percent+ gain in 2018 relative to Vanguard’s Total Stock Market ETF is especially noteworthy.
By delivering a solid 5-year return, Fundrise has taken a major step forward in confirming what they have known for so long: that a paradigm of individuals diversifying into real estate through a simple, low-cost technology network is a better investment option to owning only publicly traded stocks and bonds.
Invest On The Right Sites
For crowdfunding real estate, you don’t need to pay $100,000 or more to invest in commercial real estate. Instead, you should spend in even smaller sums, such as $5,000. The best crowdfunding sites for real estate today are:
1) CrowdStreet, founded in 2014, is headquartered in Portland and links qualified investors with a wide variety of commercial real estate debt and equity investments. CrowdStreet is perfect as it focuses mainly on 18-hour cities (secondary cities) with lower valuations, higher net rental income, and potentially higher growth.
2) Fundrise, established in 2012 and open to accredited investors and non-accredited investors. I’ve been working with Fundrise since the beginning, and their creativity has always inspired me. They are the pioneers of the product EREIT. More recently, they were the first to introduce an Opportunity Fund in the crowdfunding real estate market to take advantage of existing tax laws.
Bothof these platforms are today’s oldest and biggest investment real estate platforms. They have the best marketplaces and the fastest underwriting of deals. While evaluating the variety of real estate options that are available, investors must carefully evaluate their own investment goals.
Note, too, that real estate investment have many risk factors, so it is necessary to check the full product materials for any investment that is being evaluated.