Real estate crowdfunding is a topic that has garnered a good deal of attention in the past few years. Positioned as the channel that allows anyone to access an investment that previously had significant barriers to entry, crowdfunding is hailed for its ability to unlock the real estate market for the average investor. Through a simple internet transaction, investors can allocate money into real estate assets or investment funds that formerly were only available to well-heeled and well-connected investors. While Realized is similar to crowdfunding in that we also provide access to large commercial real estate investments and utilize the internet for marketing, that’s where the similarities end.
In this article, we will define real estate crowdfunding, and diagnose several ways Realized differs from real estate crowdfunding providers.
What is Real Estate Crowdfunding?
Despite the attention it has received, there is still some confusion around the meaning of “crowdfunding”. In 2012, the Jumpstart Our Business Startups Act (JOBS Act) was introduced to allow small and early-stage businesses to offer and sell securities. The SEC subsequently adopted Regulation Crowdfunding which provided exemptions from certain securities regulations, provided issuances met certain criteria.
In short, in its technical definition, “crowdfunding” is a subset of the JOBS Act which permits individuals to invest in securities-based transactions subject to certain investment limits both for investor and issuer under the crowdfunding exemption. However, the term "crowdfunding" has broadened in its acceptable application, and today, generally refers to the use of the internet by businesses or projects to raise capital through limited investments from a large number of investors. Because of this expanded definition, it is important to make a few key clarifications.
First, crowdfunding is not an investment structure. Underlying investment opportunities may take a wide variety of forms. In real estate this may include equity or debt, single properties or funds, partnerships or REITs, etc.
Second, crowdfunding is not a new concept. Raising capital from groups of individuals for investment purposes has been happening for hundreds of years. Prior to the JOBS Act, this was simply known as syndication. What has changed, however, is the use of the internet to make those syndication opportunities more widely available.
As mentioned at the top of this article, Realized has an online presence, but that’s largely where the similarities with crowdfunding sites start and end. This is not meant to disparage the crowdfunding industry - if fact, we are big supporters of the crowdfunding industry - but what we do is different. Realized differs from real estate crowdfunding sites in four key areas:
- Investor profile
- Investor objectives and the risk/return spectrum
- Products and Process
- Sponsors represented
The advent of crowdfunding was hailed by many as the “democratization of capital”, making investment opportunities accessible to virtually any individual by permitting non-accredited individuals to invest and offering minimum investment amounts as low as $1,000 or less.
While Realized utilizes the internet and certain securities exemptions enacted under the JOBS Act, we do not partake in any offerings actually issued under Regulation Crowdfunding. Investment offerings available through Realized are for accredited investors only and minimum investment amounts generally range from $25,000 to $100,000. As we will cover below, investments offered through Realized tend to incorporate sophisticated wealth management practices and have a heavy tax component. Because of these traits, very low minimums or non-accredited investors are not the right fit for the solutions we offer.
Investor Goals and the Risk/Return Spectrum
Crowdfunding often caters to new investors who are in growth mode and may be looking for the next big “deal” — high-growth (and potentially higher-risk) scenarios. Conversely, many of Realized clients are past the growth stage of their careers and are now transitioning to strategies focused on steady income and perhaps more importantly, managing risk. We specialize in helping those investors to tax-efficiently transition from active property management to passive Investment Property Wealth ManagementTM. Realized’s investor base is typically seeking lower-risk solutions to maintain the wealth they have already accumulated.
Products and Process
Crowdfunding, by nature, has to have a large number of investors — often thousands of them, especially if their individual investments are relatively low amounts. Because of this, most crowdfunding platforms cannot offer individualized attention or consultation, and instead, offer transactions in a similar manner to ordering goods online. There is also a growing trend in crowdfunding away from individual property investments toward fund or real estate investment trust (REIT) structures to pool multiple properties into larger packaged offerings. These characteristics often result in technology-driven automated processes in order to accommodate the masses. While these structures are convenient and may provide diversification benefits to investors, the approach has raised questions over transparency and the ability for an individual with limited commercial real estate investing experience to fully understand the strengths and risks of an offering. ArborCrowd co-founder and Chief Operating Officer Adam Kaufman was quoted an article from BisNow as saying “[Fund-based crowdfunding platforms] operate under marketing hype and luring in investors who have never invested in real estate before and don’t have the sophistication to vet those deals.” While ‘luring’ might be a strong word, it is worth considering that individuals may be foregoing sophisticated investment guidance and customization options in return for access to deals.
Realized, on the other hand, is a provider of Tax Optimized Real EstateTM solutions primarily through Delaware Statutory Trust (DST) and Qualified Opportunity Zone (QOZ) investment vehicles. These investment structures may provide tax-deferment and other meaningful tax advantages; however, the availability and magnitude of those advantages are specific to each investor’s unique tax situation. Due to the investor-specific nature of the benefits along with strict IRS-imposed requirements for recognizing those benefits, a “one size fits all” approach is not possible. Realized is technology-enabled in its while maintaining a relationship-oriented wealth management approach in tailoring investment portfolios to the unique objectives and constraints or each investor.
A “sponsor” refers to the operating partner or entity that manages the investment, serving a similar role as the general partner in a partnership. Recall that the JOBS Act and Regulation Crowdfunding were initially created to help small and early-stage businesses with capital formation. The same applies to real estate projects. At least in the early days of real estate crowdfunding, many of the sponsors behind offerings were labeled as “emerging mangers”, a term without formal definition, that generally means a sponsor below a certain threshold of experience and/or assets under management. Note that this does not imply that these sponsors are inexperienced or incapable – in fact many emerging managers have strong track records, perhaps with a narrow focus in specific markets or property types. A sponsor in this category often times outgrows their funding network (family, friends, and business associates), but may still be considered too small or inexperienced to receive institutional backing. In these instances, crowdfunding may be a viable solution.
One the other hand, sponsors who have previously attracted institutional capital or manage public or private REITs, at least initially, did not have the same motivations to utilize crowdfunding. For sponsors with billions in assets under management and established relationships with significant capital providers, raising capital in small increments is far less efficient and more of an administrative burden than they are accustom. However, such sponsors may pursue relatively smaller investment amounts if it is a source of capital not otherwise available, namely for programs with tax advantages such as the DST and QOZ vehicles offered by Realized. Some institutional capital providers, such as pension funds, are tax exempt, and thus do not recognize the full benefits of these tax-advantaged programs. The complex nuances of tax code also tend to present a barrier to less experienced operators providing these options at scale.
Note that these are not perfect delineations. Relatively smaller sponsors do exist in the DST and QOZ space. The crowdfunding industry is still young and more institutional sponsors are entering the space.
The Bottom Line
This is not a case of one option being better than another. Just as there are many viable options in the traditional investment world, many also exist in the real estate investing world and for many investors it may make sense to consider multiple avenues as part of a well-balanced portfolio. However, it is important to understand that none of the options discussed here are a perfect fit for every investor. The important thing is that investors understand the differences, the strengths and risks of various options, and perhaps most importantly, how various options fit with an investor’s unique financial and tax situation, risk tolerance and investment objectives. Additionally, when vetting or working with various platforms, it is important for investors to understand the role of the platform and their relationship with the investor. Realized’s goal is to provide investors the tools and resources necessary to make informed investment decisions.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor.
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Equity securities are offered exclusively through Thornhill Securities, Inc., a registered broker/dealer and member of FINRA/SIPC (”Thornhill”). Investment advisory services are offered through Thornhill Securities, Inc. a registered investment adviser. Realized Holdings, Inc. has a minority ownership interest in Thornhill Securities, Inc.
There are material risks associated with investing in real estate securities including liquidity, tenant vacancies, general market conditions and competition, lack of operating history, interest rate risks, the risk of new supply coming to market and softening rental rates, general risks of owning/operating commercial and multifamily properties, short term leases associated with multi-family properties, financing risks, potential adverse tax consequences, general economic risks, development risks, long hold periods, and potential loss of the entire investment principal. Past performance is not a guarantee of future results. Potential cash flow, returns and appreciation are not guaranteed. IRC Section 1031 is a complex tax concept; consult your legal or tax professional regarding the specifics of your particular situation. This is not a solicitation or an offer to sell any securities.
All investors must be “accredited investors” and/or “qualified purchasers” as defined in the securities laws before they can invest.
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