In recent years, Real estate crowdfunding has emerged in popularity as a new way to invest in commercial real estate. Sponsors and General Partners are looking for platforms to raise both debt and equity for their projects. On the other hand, investors are keen on entering the global real estate sector with minimal investments. Therefore, various real estate crowdfunding sites are on the rise. But it is not the right choice for everyone. Keeping this point in mind we are going to discuss elaborately the components of choosing the best real estate crowdfunding platforms. And you can decide to go for its risk tolerance and investment goals.
What is a Real estate crowdfunding platform and how they work?
Real estate crowdfunding is a group of investors who pool their money together to contribute to a specific real estate deal. A real estate crowdfunding platform is a website where the sponsor gets connected with the investors to raise capital for a real estate crowdfunding project. This platform is a digital exchange where the sponsors can advertise to investors regarding the deal and legal and financial regulations of the project.
They also act as a device to ensure whether any potential investors meet the necessities of the investment. The idea behind the real estate crowdfunding function is that whenever a developer identifies an investment opportunity, they always don’t have enough capital to invest then they allow a middleman to contribute some of the project’s capital in order to collect enough money for executing the plan.
How to access Real estate crowdfunding opportunities?
A crowdfunding platform acts as the middleman between deal sponsors and real estate investors. One of the major functions of crowdfunding platforms is to process the deal before posting them to the website. So, it’s important to use an esteemed platform that takes suitable measures for operating the project smoothly.
Thus, before investing in a Crowdfunded platform you must understand the platform’s vetting process or how the deals are vetted before they are allowed in its marketplace. The topmost real estate crowdfunding platforms apply a high level of consistency for both the sponsor and deal level. In addition to it, you must make sure where your investment dollars are actually going. If you invest directly in a real estate asset that possesses a share in the property may fail if the platform fails. But if you are investing in a crowdfunded platform then your investment will be at high risk if the platform has financial trouble.
Lastly, you have to look for a platform having individual property or a handful of properties, or a highly diversified property that possesses a share in dozens of properties. But if you choose an individual property and think of investing in a single property then choosing a platform doesn’t make any sense.
How to evaluate real estate crowdfunding opportunities?
Among a huge number of real estate crowdfunding platforms and sponsors, it’s really challenging to choose the first crowdfunded investment. Here are various factors which will help to determine the accurate real estate crowdfunding opportunity.
Before investing, investors always consider the risk factors of the deal. Those who are risk-averse may invest in crowdfunded opportunities, thereby putting their eggs in different baskets. Likewise, they also consider the product type they are investing in. Multifamily investments and offices are safer than retail or hotels. Some geographical markets are less riskier than others. Investor will always want to reorient their risk portfolios with the nature of the deals they are going for.
Local and Micro market point
Local markets refer to the 18-hour cities. These growing markets are not so big to be dominated by institutional investors. But for individual investors, it’s a bit of an upswing who are able to get into a deal. The U.S Census Bureau states that Austin’s multi-country metro population has increased by 3%, making it the fastest growing population with at least 1 million residents . So it’s a good deal to go with these local markets.
But while considering micro markets you have to be more particular because micro markets are more susceptible to supply and demand shocks. For example, college town markets are micro-markets. Here the supply outstripped demand and rents went down with the increasing rate of the vacancies. So the demand for new projects also decreases.
Generally the investment type of crowdfunding is equity investments. That means you contribute some of your money and in return you own an interest in the profits generated by the deal. There are also other types of crowdfunding investment structures – debt investment and preferred equity.
In the case of choosing a debt investment you act as a mortgage lender. That means you provide some capital for the deal and in return you get a series of predetermined payments. But you can’t share any profits generated by the investment.
In preferred equity you receive some guaranteed return, it also gets some performance based return. Preferred equity acts as a hybrid investment.
The most critical factor to consider while choosing a real estate crowdfunding opportunity is the sponsor’s experience. You have to check the marketing team of the sponsor. Before selecting a sponsor you must have the answers to the following questions.
- What experience do the sponsors have with this type of deal? Carefully evaluate the management procedure of each sponsor. Make sure about their relevant knowledge and investment experience before going with them.
- What was their projected vs. Actual return on the previous deal?
- Who are the team members and what are their experiences? Experienced sponsors are able to navigate the deal smoothly. As it is a cross between technology and real estate so the team must have both efficient persons.
- Does the sponsor have skin in the game? The more investment in the project it’s better. You want the sponsor to be completely aligned with the investors.
- What was the condition of their deal during the downturns? What was the nature of the downturns, was it local or national? Sponsors who go through tough times have the capabilities to move through the entire cycle smoothly and win the game. But if the sponsor has never faced a downturn then it will be best to stay away.
- What was the biggest project risk of the previous deal?
The answers to these questions will help to evaluate the various opportunities.
The fee structure varies from one deal to the other. Evaluation of individual deals by doing side-by-side consideration will give a specific idea about the fee structures. You should have a clear idea about the usage of the fees and be sure that they are similar to the market rate and do not serve as a motivator for the sponsor.
Crowdfunded deals have a fixed targeted internal rate of return (IRR) for the investors. The calculation of IRR is a bit critical. It is a combination of the expected income from the deal with the expected profits from the sale of the property. While choosing the platform IRR should be considered. As this is the return that is anticipated by the sponsor to give back to the investors after collecting performance-based fees.
Target Holding Period
Investors should be aware of the target holding period, as this tenure will determine when the investor can expect to be repaid, as well as the interest or dividends that will be paid. Almost all crowdfunding deals for equity have a target holding period of between three to ten years, it can also be more or less. The target holding period for debt is lesser, ranging from one to five years. This holding period depends on the sponsor’s exit strategy. That’s why it’s important to understand the business plan. An investor with a short time span will determine opportunities with a shorter holding period but with a long time span will determine with a longer holding period. The target holding period sometimes depends on market conditions also. In an overheated market, the sponsor finds greater opportunities to return so they sell sooner before the projected period and generate higher returns for investors.
Income or No Income
When a crowdfunded investment takes place investors expect to be repaid their initial investment along with interest, dividends, share appreciation, or some other combinations. Most deals offer some ongoing income stream for the investors, though it may take years to pay. It depends on the sponsor’s business plan, the amount of construction required, and how long it takes to modify the property.
Another way of earning money through real estate crowdfunding is through a profitable exit. This happens through refinancing or selling the property and getting a share of the property and proceeding to the investors. Some deals have both interest and dividends as well as payouts as a result of a profitable exit.
The benefits and profitable advantages obtained from crowdfunding are numerous and it is an outstanding way to enhance and diversify the financial portfolio of the investors.
What are the factors to keep in mind while selecting a Real estate crowdfunding platform?
In today’s real estate market, there are several crowdfunding platforms. The biggest challenge is to decide the correct platform to go with. An investor will first consider his or her financial situation and investing objectives. Then you have to choose your desired time horizon. Some platforms have a short life cycle others have long-term investments in which it may take a long time span for getting repaid. So investors can filter various platforms through this factor and also the investment amount. Now, once the search is constricted you can go for other factors for choosing the best real estate crowdfunding platforms. Here comes the other findings –
The most important factor to look for in a real estate crowdfunding platform is to check who’s behind the company. As this industry is a cross between technology and real estate, the most successful companies have been a union of tech entrepreneurs and commercial real estate professionals. The best platforms have a team of seasoned real estate professionals who deal with real estate projects prior to allowing them to raise funds online. A potential investor will always evaluate these types of teams including their level of experience and underwriting capabilities.
The research for good sponsors behind the deal before the investment is also an important aspect. The sponsors are the people who you are entrusting with your hard-earned capital. They will look after the day-to-day activities of each and everything. So you must look for a sponsor who is successful in navigating multiple real estate cycles.
While choosing the best platform you must look at the volume of the transactions. You must choose a platform that balances transaction volume with the quality of transactions. The platform must have a balance between the both. Another way of checking volume is to ensure that the platform is having underwriting staff to adequately evaluate the number of deals functioning. The transactional volume of sponsors should also be evaluated by the investors. Investors must have complete knowledge about the track record of the sponsors regarding their capabilities and ability to raise debt finance during any downturn situation. Sponsors must have sufficient capabilities to raise debt finance, particularly during any downturns when debt dries up as banks get reserved in their lending. Sponsors who take better opportunities in debt markets are better positioned.
The Financial Projection
It’s critically important to check every nook and corner of the financial statement of the deals. Be sure that you are not missing out on anything. The details of the financial projection which should be looked for are – firstly the proforma, then you must check whether the rent projections are aligned with market averages or not, do the expenses are reasonable, the vacancy strategies of the sponsor, the strategies used by the sponsor for going-in and exit cap rates. If you get all the answers to your queries from the sponsor then it’s a yes otherwise you should run away from those sponsors.
The Customer Service
A platform’s customer service should never be unnoticed. A good customer service team will provide best-in-class investor relationships to help potential investors navigate the market. They will also provide robust informational materials to develop the investors. It doesn’t make any changes whether you are investing for the first time or multiple, the nature of the customer service team will be the same for you.
The Lilypads Bottomline
Crowdfunding platforms are growing in popularity. So after going through this blog you get all the ideas for starting with crowdfunding real estate. Now it’s your choice to accept it and add some hard work and diligence to achieve the immense profitability provided by real estate crowdfunding platforms. By sitting on the sideline you can’t achieve anything, so go forth and conquer.