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Real Estate Crowdfunding 101

posted in Angel Investing, Crowdfunding, Financing, JOBS Act, Real Estate Investing, Venture Capital by

With the recent explosion of crowdfunding portals, a new trend is catching the eye of a new breed of investors. Crowdfunding portals are well established in Europe and recently made their way to the U.S. as part of the J.O.B.S Act. Many commentators have characterized the new trend as the next.com bubble. There are currently portals for political finance, entertainment finance, and disaster relief. The recent housing market collapse drove down housing prices which triggered opportunistic investors to place substantial funds into purchasing distressed properties with the desire to make large profits when housing market prices rebounded. However, investing in distressed properties almost always requires cash deals, without financing opportunities, and thereby limiting these investments to wealthy investors.

The logic behind real estate crowdfunding is solid. Real Estate crowdfunding will allow small investors with little capital, to invest in large scale real estate projects, with greater transparency, less transactional and management fees, and without the SEC’s “accredited investor” restriction which has previous limited these types of investments to wealthy investors and private equity funds.

The Benefits

There are numerous benefits to real estate crowdfunding. Perhaps the largest benefit is job creation in the construction sector which took a major blow in the housing market collapse. This includes not just jobs in building but also construction products such as lumber, steel and concrete manufacturing.

Another key benefit of real estate crowdfunding is localization. Real Estate Crowdfunding allows individuals to invest in real estate development in their own community, thereby increasing the aesthetics and infrastructure of their community. This not only provides individuals in the community a voice in the development of their neighborhoods, but also could potentially increase the value of their own homes and businesses.

The Issues

Real Estate crowdfunding will open the doors to complex investing strategies and newly created regulations to small investors that may have little investing experience. Generally, “accredited investors” investing private equity and other similar investments are deemed “sophisticated investors” that have a full understanding of loss potential, fundamental analysis, and have legal counsel and advisors to assist in the decision making process. This may not be the case for smaller investors looking to invest their savings or excess residual incomes, and could cause major issues in which the SEC has diligently tried to prevent.

Another issue is the potential for fraud. Online hackers in various countries have deployed many complex tactics in the world of cyberspace ranging from creating fake websites to identity theft. Creating secure websites to protect personal and financial information of investors will likely be a constant challenge for web-based crowdfunding portals.

Another key issue for crowdfunding portals is regulation uncertainty. While the SEC works to nail down regulation of crowdfunding, other agencies such as FINRA and state agencies will also be involved in the process. The combination of less sophisticated smaller investors with new regulations that have not been fully tested, could have strong consequences which could lower investor confidence in these investments.

Lastly, it remains unclear how real estate crowdfunding will be executed for larger commercial real estate projects which could be severely limited by the amounts that fund raises will be capped at. If the maximum a fund can raise is limited to $1,000,000 it could be very difficult to make up the funding deficit through traditional debt funding.

What to do Now?

If you are interested in starting a real estate crowdfunding portal, are currently operating a real estate crowdfunding portal, or are an investor interested in investing in a real estate crowdfunding portal or other alternative investment opportunities you can contact Larry Horwitz at lhorwitz@horwitzarmstrong.com.

11 Nov, 13

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