Commercial real estate investment has always been a popular asset class for investors. But the huge initial capital requirement and the illiquidity of the investments stop smaller investors from entering the market. However, the rise of blockchain tokenization and fractional ownership help smaller investors to invest in premium commercial properties.
What is Fractional Ownership?
Fractional ownership is the process where several unrelated investors purchase fractions of shares in a real estate property.
This type of investment is common for expensive real estates assets like hotels, apartments, stadiums or others.
How does it work?
A commercial property is listed online for sale. Hence, each property share is allocated a minimum ticket size based on the total investment required.
So, investors can buy just a percentage share or multiples of the same ticket instead of the whole property.
Thus, they legally become co-owner of the property depending on the investment amount.
The fractional owners can receive monthly rental payments or interest on the tenant’s security deposit depending on their ownership percentage.
Responsibilities of Fractional owners
Usually, the pool of the fractional investors is managed by a property management company, or a central board or association.
The management is responsible for property management including construction/renovation and brokering an eventual sale.
However, when there is no central property management board, the co-owners share the property management tasks. These include bill payments, record-keeping, making an annual budget for maintenance and repairs, taxation, etc.
Options for Fractional Ownership
In the United States, there are mainly two options for fractional ownership in real estate. These are Tenancy-In-Common (TIC) and Delaware Statutory Trust (DST).
Tenancy-in-common is an investment property structure where two or more parties share the ownership rights of a property.
The independent tenants-in-common each own separate interests in the property of an equal or different percentage.
Also, the tenancy in common owners can leave their share of the property to any beneficiary. And, they can also independently buy or sell their portion of the property.
Delaware Statutory Trust (DST)
Delaware Statutory Trust (DST) are legal entities. They are created as trusts that allow each investor to own a “beneficial interest’ in the DST.
Investors in a Delaware Statutory Trust own a pro-rata interest in the trust. As a result, the investors receive rental incomes or a share from the eventual sale of the property.
Why is Fractional Ownership the future of commercial real estate investment?
- Lesser Acquisition Cost
When an investor buys only a fraction of a property, they pay a part of the whole property’s cost.
So, fractional property ownership models allow average investors to purchase expensive properties with minimal investment.
- Low Operating Costs
In a fractional ownership investment, the fractional owners share the cost of renovating, furnishing, landscaping and outfitting the property.
Mostly, property managers also supervise the maintenance operations. Hence, this reduces the cost and time of operating.
- Portfolio Diversification
Fractional ownership commercial real estate investment allows investors to expand their portfolio.
They can diversify their portfolio by investing in different property types and asset classes, across multiple geographies with minimal capital.
- Passive Income
Fractional ownership investments help investors to earn higher rental returns based on their ownership percentage.
Thus, the passive rental income from commercial real estate is almost 2-3 times higher than the rental income from residential properties.
- Greater Liquidity
Fractional ownership has no lock-in period for a certain amount of time.
Therefore, investors can sell their percentage of the asset in a secondary resale market, at any time.
Blockchain-based tokenization for fractional ownership
The Blockchain technology has brought in tokenization in commercial real estate.
Thus, Blockchain-based tokenization is promoting blockchain fractional ownership in the industry.
What is Tokenization?
Asset tokenization turns physical properties to blockchain-based digital tokens.
These tokens represent a certain number of shares of a property.
The investors can then buy these tokens, with minimal capital and be direct fractional owners of the property.
So, whenever they want to, they can also sell their tokenized shares.
Benefits of Tokenization in fractional ownership
- Increases Liquidity
Here, the investors can sell the assets directly to the investors through security token offerings.
Also, the investors can trade the assets on a peer-to-peer basis in a secondary market.
- Improves Speed
Blockchain-based tokenization uses smart contracts to automate the exchange and distribution process.
So, this removes administrative costs and speeds up the settlement.
- Removes intermediaries
Earlier when commercial real estate trading involved multiple external third parties for validating the transaction. But tokenization removes such intermediaries.
Blockchain stores all the data like the rights of the fractional owners, their limitations and property information.
And, all the parties can access this information in real-time.
Moreover, smart contracts contain records of token ownership.
Therefore, no parties can double sell a token and property transactions become highly transparent.
Smart contracts remove due diligence costs and intermediary charges.
Furthermore, tokenization and fractional ownership allow investors to buy fractions of an asset with minimum amounts.
Therefore, commercial property transactions become low cost.
- Expands the Investor Base
Tokenization allows higher number of smaller investors to buy a real estate asset with low amounts.
Also, the digital representation of a property on a blockchain platform allows global trading of the property.
The Lilypads Bottomline: Fractional ownership is the future of commercial real estate investments
With rising costs and falling incomes, investing in commercial real estate properties is a far reaching dream for average investors.
However, with fractional ownership and blockchain-based tokenization, retail investors can actually own a commercial property with minimum investment amounts.
Hence, fractional ownership is truly transforming commercial real estate and expandings its boundaries and increasing trading volumes.