Crowd Sourced Real Estate Investing

Crowd Sourced Real Estate Investing

A new trend in real estate investing is somewhere between owning a property outright and buying a REIT ETF or mutual fund. It is called “crowd-sourced” real estate investing. In this post I will explain how to invest in these platforms, who may invest in them, and what happens to the invested money. I’ll also show how they differ from ordinary real estate purchases or buying a REIT.

What is crowd-sourced real estate investing?

Real estate is expensive, complex, risky but also very lucrative. With crowd-sourced real estate investing you hand over your money to an investment platform in exchange for a small slice of a property. The investment platform takes care of managing the property. They provide an analysis of the risk and a projection of how they think the property will perform in terms of a rate of return. 

The properties they offer vary widely. These types of properties are generally not available to small investors. Some examples are: a collection of apartment buildings, a large condo complex, an office building in a downtown area, a huge resort, farm land, etc.

The catch is, only accredited investors are allowed to buy in. So it isn’t for beginning investors and the money used should be money you can afford to lose or keep locked up in the investment for an indeterminate amount of time. 

How does crowd sourced real estate differ from REITs?

There is a big difference between REITs and crowd-sourced real estate investment platforms. A REIT is a corporation that owns, manages, or finances real estate that produces income or property related to the real estate.

REITs are similar to other ETFs and mutual funds in that they pool the capital of numerous investors, except with a focus on real estate only. REITs are registered with the Securities and Exchange Commission and are traded on major stock exchanges.

As with anything traded on the stock market, they have their pros and cons.

The advantages of REITs are:

  • individual investors can access real estate profits without owning, financing, or managing real estate. Investing in them can be very cheap, a single share can be less than $100. This is a much lower entry point than direct investment in real estate.
  • have an attractive total return potential. By law REITs must pay at least 90% of taxable income to shareholders. Most REITs have a dividend yield of 5% or more. In addition as their underlying property value increases, the net asset value increases (which means the share price goes up too)
  • They are very liquid, which means that they can be bought and sold like shares on the stock exchange. They are traded on a large scale.

Disadvantages of REITs are:

  • most of their dividends are not considered qualified dividends and are therefore taxed at a higher rate. To get around this you can hold REITs in a tax-advantaged account such as 401(k), IRA, or Roth IRA.
  • high-interest rates are bad for the REIT's price because when interest rates rise, the REIT price falls.
  • some REITs focus on a specific sector of the real estate market which are subject to unique risks. For example, if you invest in REITs related to hotels, and people travel less at a certain time (or due to a pandemic), your investment is exposed to the risk of the tourism economy.

A warning about alternative investment platforms

Alternative investment platforms can be problematic given they are somewhat opaque. You don’t really know where your money is invested or whether the investment will pay off.

They are very up front in that you will have to wait a long time for any return, and that return has a wide range. You essentially have to blindly trust the platform will do what they say, act in good faith, and the real estate investment itself works out. Unlike a REIT which pools thousands of properties making it heavily diversified a crowdsourced investment may be a very narrow investment (just one building for example). This opens up the possibility it may result in a much larger loss (or gain).

Think of it this way - if the platform needs to raise money from a bunch of little guys to make the deal possible, why hasn’t some bigger fish come along and taken the entire deal already? The deals available on these platforms may already have been “picked over” by the more savvy and wealthy players in the real estate game. 

Crowd Sourced Real Estate Investing

How does this differ from owning real estate directly

When you buy real estate directly everything is transparent (provided you did your research, had inspections, etc). Having full control over the property is a great feeling. That said, operating your own real estate company is a lot of work too. See our post on real estate investing for more thoughts on that.

On the other hand, when you buy real estate through crowd real estate investment platforms, there are many hidden risks:

  • you have no control over the money or day to day operations
  • you don't have to worry about finding tenants or doing maintenance, and in theory the platform is being a good shepherd of that (but who is really checking up on that??)
  • you cannot sell the property when you want
  • what if the property is liquidated or the project goes bankrupt? Each deal would have its own terms, but in general the bank gets paid, then the platform (including the CEO bonus), then only if there is anything left over the small investors get the remaining crumbs.
  • the minimum investment can be sizable - $20k - $50k

Example Crowd Sourced Real Estate Investing Platforms:

  • Arrived - rental homes and vacation rentals
  • Realty Mogul - direct investment in real estate projects / unregistered REIT style funds.

Conclusion: investing in crowd sourced real estate comes with pros and cons. The risk is compensated for by the expectation of big returns. However your money is locked up for a lengthy and unknown period of time. If you have excess capital and an appetite for risk it can make sense. The trick is to fully understand what you are buying into and under what conditions you will see a return.

The post Crowd Sourced Real Estate Investing is part of a series on personal finances and financial literacy published at Wealth Meta. This entry was posted in Homes and Real Estate
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