The crowdfunding sector has gone from relatively unknown a decade ago to a multibillion dollar business. It is now possible to secure crowdfunding investment in an array of different areas with one of the most popular being property/real estate. We therefore thought it may be interesting to take a look at the pros and cons of property crowdfunding and what you should expect.
Two distinct types of investment
You will find there are two distinct types of investment with regards to property crowdfunding. They are:-
Crowdfunding platform supported investment
Many property companies have effectively created their own crowdfunding platforms to raise funds for investment. The idea is simple; the property company behind the crowdfunding platform will do the due diligence and invest directly into the projects. Private investors will also be given the opportunity to acquire equity in individual projects through the crowdfunding platform. While it is obviously essential to do your due diligence before investing your money, for many people the fact that the property company/crowdfunding platform is also investing in each property is an effective seal of approval.
Peer-to-peer investment with regards to property crowdfunding is simple, a third party looking for investment, other parties are looking to invest and the crowdfunding platform will bring them together. Unlike the other type of crowdfunding investment, it is unlikely that the crowdfunding company itself will take a stake in any of the property investment ventures. There may be occasion where they might forego crowdfunding fees in exchange for a stake in an investment but this is not generally the norm.
Forms of crowdfunding investment
As with traditional investment markets, there are two main forms of crowdfunding investment which are essentially equity and loan stock. An equity investment is simply the acquisition of a share in an asset. In this case the asset is normally a special purpose vehicle (SPV) which is used to acquire property and in which investors receive a share in exchange for their funds. This ensures that the SPV is kept separately from the underlying business of the property/crowdfunding company involved and the SPV will hold a charge over the property itself.
The second type of investment is via property loan notes which are, as the name suggest, a means by which you can lend money to a third party in exchange for a (normally) fixed interest rate and eventual redemption. In many cases there is a fixed rate in the early days, then an offer to redeem or hold for the longer term. As with any type of investment, it is advisable to take professional financial advice and make sure that you are fully aware of the risks and potential rewards.
The pros and cons of property crowdfunding
We will now take a look at the pros and cons of property crowdfunding which are all relatively straightforward but it is often worth reminding ourselves.
The main pros of property crowdfunding include:-
• The ability to gain exposure to real estate investments with a relatively small amount of money
• The opportunity to create a diverse property portfolio again for a relatively small amount of money
• Property crowdfunding allows you to create a more balanced portfolio as opposed to investing all of your money into one property investment
• As you are buying shares in an SPV, the purchase process is very simple and very quick. All of the investment property due diligence has already been done
• The properties are managed by third parties therefore investors will not be involved in day-to-day issues such as repairs, tenant communications, etc
• This can be an alternative investment path for would-be property investors unable to secure mortgage finance by the traditional route
• Some real estate crowdfunding platforms also offer a secondary market in which you can sell on your shares
The main drawbacks with property crowdfunding include:-
• The overall investment return is lower than if you acquired property directly yourself. This is as a consequence of fees, management charges and the fact that you are not leveraging in the same manner as you would with a mortgage funded property investment
• You are dependent to a great extent on the ability of the property investment company to pick a winning investment – there is no hands on involvement in choosing the actual property
• Normally investors will not have a say as and when the property is sold with these particular issues often decided by third party management
• Some property crowdfunding investments will have a lock in period during which it can be difficult to sell shares
• The relatively new nature of crowdfunding platforms means many have limited track records. However, much of this risk is reduced because the investments are held in secure standalone SPVs
It is sensible to be aware of the pros and cons of real estate crowdfunding investment as it is with any other type of investment opportunity. At the end of the day it comes down to due diligence and acquiring investments that fit with your particular investment strategy.
Is property crowdfunding here to stay?
Over the years we have seen many investment vehicles and investment tools come and go. Many have promised to change the world only to fall by the wayside after a relatively short period of time. While many do ask the question, is property crowdfunding here to stay, the simple answer is yes. There are many reasons as to why crowdfunding is here to stay which include:-
Using the full power of the Internet, property/real estate crowdfunding platforms can literally reach all areas of the world. This exposure ensures that good quality real estate investments will catch the attention of many investors and allow them to secure investment going forward.
One of the main concerns in the early days was the relative lack of regulations although in reality the European Union for example already had a regulatory structure for all financial services. The fact that the European Union is now building a specific set of regulations targeting crowdfunding platforms gives both investors and those looking for investment a greater degree of security. The same can be said in the US where the SEC has been very proactive with regards to crowdfunding investment and regulatory protection.
• Reduced charges
While there are some fees associated with property crowdfunding investments, compared to traditional fundraising routes they are significantly less. In many ways this has reduced the difference between the cost of traditional bank orientated fundraising and that now available via crowdfunding platforms. This margin pressure is likely to continue to the benefit of investors and those seeking investment.
• Financial institutions hedging their bets
At the end of the day, money talks, and the fact we have seen many financial institutions hedging their bets by acquiring exposure to crowdfunding platforms says everything. While it does make common sense to hedge your bets, we have seen some significant investment in crowdfunding platforms from more traditional financial institutions. At the end of the day this is a sector where money talks – we can hear it loud and clear!
The ongoing tightening of regulations covering crowdfunding investments has been welcomed by all parties. This effective rubber stamping of the industry reduces the perceived platform risk to a certain extent. It also ensures that in the event of mismanagement/misinformation there is a greater degree of security with regards to investment funds. Indeed the use of SPVs may sound relatively straightforward but it is very important. This ensures that individual crowdfunding property investment proposals are held in vehicles which are totally separate from other party’s involved in the proposition. The SPVs will also hold a charge over the property in question as you would with traditional mortgages.
After the initial boom in crowdfunding platforms, we saw a number of operations fall by the wayside and others merge together to create larger more efficient entities. This is the traditional path for new products/services, there is a rush of investment, the weaker entities fall by the wayside and the leaders take charge. A quick search on the Internet will show you the leading property crowdfunding platforms and if you dig a little deeper you will see how the sector has transformed in recent years.
We may see changes in direction, a tightening of regulations and reduction in the breadth of investment opportunities available, but the crowdfunding platform is a concept here to stay. As ever, real estate investment will be a high profile participant and highly visible going forward.