Real estate crowdfunding is a relatively new concept that is gaining popularity among a broad range of investors who are looking to raise money for their deals or to invest in others’ projects through an online platform.
Crowdfunding is by definition, “the practice of funding a project or venture by raising many small amounts of money from a large number of people, typically via the Internet.”
Real estate investing has shifted with the introduction of online platforms that advertise and offer real estate investment opportunities, transforming what had once been a word-of-mouth industry into something more accessible.
The Rise of Real Estate Crowdfunding
The growth in online real estate investment offerings can be traced back to the Jumpstart Our Business Startups Act (the “JOBS Act”) of 2012, which allows issuers more latitude in raising capital and advertising their securities. The JOBS Act encouraged funding of small businesses in the United States by easing many of the country’s securities regulations. Because of the enactment of the JOBS Act, crowdfunding has gained popularity, enabling individuals a chance at success, by showcasing their businesses and projects to the entire world.
In addition to crowdfunding websites, business owners have turned to social media platforms such as Twitter or Facebook to market their ventures directly to wider audiences of interested investors. The enormous growth of mobile and electronic transactions, as well as social media adoptions, have helped contribute to the increase in real estate crowdfunding.
Crowdfunding Models for Real Estate
Investment opportunities offered on real estate investing platforms are generally Rule 506(c) or Regulation A+ offerings. Provided below is a brief description of the two primary real estate crowdfunding models investors should be aware of.
Permits issuers to broadly solicit and generally advertise an offering, provided that:
- All purchasers in the offering are accredited investors; and
- The company takes reasonable steps to verify that the investors are accredited investors, which could include reviewing documentation, such as W-2s, tax returns, bank and brokerage statements, credit reports and the like.
An accredited investor includes anyone who:
- Earned income that exceeded $200,000 (or $300,000 together with a spouse) in each of the prior two years, and reasonably expects the same for the current year, OR
- Has a net worth over $1 million, either alone or together with a spouse (excluding the value of the person’s primary residence).
Regulation A+ opened up investment opportunities to investors interested in smaller issuers. (Certain investment limits do apply, but these do not apply to accredited investors). Companies engaging in Regulation A+ offerings can raise up to $50 million in funds from anyone.
Whether you invest in a real estate project that is raising money through a Rule 506(c) offering or Reg A+ offering, it, like any investment, involves risks. It is important for you as an investor to assess the full scope of benefits and risks associated with a real estate crowdfunding investment.
Types of Real Estate Crowdfunding Investments
The two types of real estate crowdfunding investments are equity investments and debt investments.
- Equity crowdfunding – This is the most common route investors take because equity investments are typically longer-term investments that offer higher returns. Equity investments give investors an equity stake in the commercial or residential property, effectively turning them into shareholders. Dividends generally consist of rental income of the property. Also, if/when the property is sold the investor will earn income as well.
- Debt crowdfunding – Debt investing means the investor is acting as a lender to the property owner. Investors receive a fixed rate of return that is based on the interest rate of the owner’s mortgage loan, as well as the amount you have invested. Payments are usually given every month or every quarter. Also, since you are in debt investing, you will have priority during property payout. There is no additional income if/when a property is sold and investors don’t own a proportional share of any property.
Real estate crowdfunding is an attractive option for investors who are looking to fund investments and receive funds. It helps to diversify your investment portfolio by allowing you to invest in projects that otherwise wouldn’t be affordable. Both equity and debt investments have their pros and cons, but if utilized correctly, it can be highly beneficial to you. Understanding your risks and doing due diligence before investing is the key to your success when investing in a real estate crowdfunding offering.
Disclaimer: This information is provided to our clients and other friends for educational purposes only. It should not be construed or relied upon as legal advice. Please contact your lawyer with respect to any of the matters discussed here.