Investing in real estate comes with certain risks, but the rewards can be lucrative, especially with commercial real estate. Owning office space or an apartment building that you lease, for example, may bring you a steady stream of rental income while adding diversity to your portfolio and providing greater insulation against market volatility. However, direct ownership has its downsides and may not be practical for every investor. Real estate crowdfunding has emerged as an alternative to owning property directly. From an investor perspective, there are several reasons why it's the better choice.
To learn more, see this tutorial: Exploring Real Estate Investments.
Fewer Barriers for Commercial Investors
Investing in commercial real estate isn’t like buying shares of stock or purchasing a mutual fund. Buying a property typically requires a large amount of capital or, at the very least, approval from a lender to get a commercial mortgage loan. Banks often reserve commercial loans for business entities, such as real estate development groups or corporations. If you’re an individual investor, your only source of funding may be a hard money loan from an individual or private lending company. While hard money lenders may be more flexible in granting loans for commercial investment projects, they often charge significantly higher interest rates and fees, which will diminish your returns. (For more on financing options, see The Complete Guide to Financing an Investment Property.)
Real estate crowdfunding platforms, on the other hand, offer a much easier path to investing in commercial real estate. (For more, see Top 5 Real Estate Crowdfunding Companies.) Instead of needing a six or seven-figure bankroll to buy into a particular deal, it’s possible to invest in hotels, warehouses, office buildings, shopping centers and other commercial properties with as little as $5,000 to $10,000. That’s appealing to investors who want to add real estate to their portfolio but aren’t in a position to buy a property outright. Not only that, but real estate crowdfunding is less restrictive in terms of who can invest. In October 2015, the SEC finalized Title III of the JOBS Act, paving the way for both accredited and nonaccredited investors to pursue crowdfunded investments.
Investors Aren’t Required to Be Hands-On
Crowdfunded properties also spare part-time investors many of the responsibilities that come with owning a commercial property – for example, dealing with leaky faucets or tenants who are behind on the rent, if the property is an apartment building. You could hire a property manager to do the hard work for you, but his/her fee would reduce the income the property generates. For someone who prefers a passive investing approach, crowdfunding makes more sense.
When you invest in a commercial property through a crowdfunding platform, your ownership is limited to either debt or equity shares in the property. When you own debt shares, you own a stake in the mortgage loan on the property and your return comes from the interest paid on the loan. With an equity investment, you receive a percentage of the rental income. Either way, you’re not the one who’s responsible for dealing with tenants or maintaining the property on a day-to-day basis – a huge plus if you don’t want those kinds of headaches. (For more on debt and equity crowdfunding, read: Equity vs. Debt Investments for Real Estate Crowdfunding.)
Tax Benefits of Direct Ownership Still Apply
In addition to the income potential that commercial real estate provides, investors also get tax benefits. The IRS allows investors to deduct depreciation of income-producing properties they own, as well as depreciation of any capital improvements made in connection with the property. For someone who owns a large amount of commercial property or a property that produces a significant amount of taxable income, that deduction can be extremely valuable.
Real estate crowdfunding allows investors to snag these tax benefits in a streamlined way. Typically, crowdfunding platforms set up investments as pass-through entities, such as a limited liability company. Investors own their debt or equity shares through the pass-through entity and that structure creates a tax shelter. The value of deductions for depreciation or loan interest trickle down and are used to offset any positive cash flow from the investment. Again, the tax aspect is handled by the crowdfunding platform so you’re not having to bend over backwards to get these benefits.
The Bottom Line
Commercial real estate investments have the potential to be highly profitable over the long-term, which is important for anyone focused on building sustainable wealth. Real estate crowdfunding is an attractive option for investors who have been unsuccessful in getting a foothold in the market or want to gain entry to this asset class without having to do a lot of legwork.
As you’re comparing crowdfunding platforms, pay close attention to the range of investments available and the fees that the platform charges. The goal is to make sure you’re striking the right balance between cost and value before investing in a commercial crowdfunded property. To check out the another route to shared ownership of commercial real estate, see REITS vs. Real Estate Crowdfunding: How They Differ.