Real Estate Crowdfunding

What Is Real Estate Crowdfunding?

Crowdfunding is a method for raising money for businesses and an easier way to access such ventures for investors. Crowdfunding utilizes the Internet and social media outlets, such as Facebook, Twitter, and LinkedIn, to reach an audience of potential investors.

The idea behind crowdfunding is that many people are willing to invest a small amount, and when they do, large sums of money can be raised quite quickly.

Crowdfunding offers companies access to capital that they might never be able to raise. Crowdfunding offers investors the ability to become shareholders in a company or in a real estate property.

How Crowdfunding Works

In the past, crowdfunding was most commonly associated with equity transactions, whereby companies would use the process to raise capital. Crowdfunding pools money together so that small and mid-sized could use the funds to invest in the company's future, such as buying equipment or building a manufacturing plant. 

Traditionally, equity crowdfunding was only open to accredited investors. Accredited investors include banks, pension plans, insurance companies as well as affluent, sophisticated investors. For an individual to qualify as an accredited investor, the person had to earn $200,000 or have a net worth that exceeded $1,000,000.

Advantages and Disadvantages of Crowdfunding

One of the benefits to crowdfunding is that it doesn't take a large amount of money for investors to get in—and in some cases—the minimum is $1,000 dollars to invest in a company. Also, if the company eventually goes public, meaning they issue new stock via an IPO or initial public offering, there could be an enormous potential for investment gains.

Of course, one of the biggest risks or drawbacks to crowdfunding is that investors are putting money in a company that is fairly unknown. In other words, the company doesn't have a lot of financial history. As a result, there's the risk that investors could lose all of their investments. Given the relative novelty of the practice and the lack of official regulation of this space, any team can come forward with a project without the right ethics or skills to manage the raised money, and you can imagine the rest. You should run your research and do your due diligence on the team behind the project even if your ticket is $1,000 only.

Crowdfunding came about from the passage of the Jumpstart Our Business Startups Act (JOBS), which allowed crowdfunding to aid small and mid-sized companies with their capital needs.

The Securities and Exchange Commission (SEC) has since lifted the restrictions that banned non-accredited investors from investing in crowdfunding activities.

Although there are limitations, non-accredited investors can participate in crowdfunding for equity transactions as well as real estate transactions.

Current Real Estate Crowdfunding

Prior to the JOBS Act, real estate investors could only invest in real estate by buying a physical property or investing in real estate investment trusts (REITs). However, crowdfunding has opened up a whole new method for investing in real estate.

Real estate crowdfunding is very similar to equity crowdfunding in the sense that an investor can buy into a property and become a shareholder. The investor does not need to buy the entire property. Instead, the investor can earn a portion of the profits generated from the real estate investment. For example, any revenue generated from the building's rental income or any proceeds from the sale of the building would be paid to the investors.

One of the benefits of real estate crowdfunding for non-accredited investors is the low minimum investment amounts that are typically required. In some cases, investors can become shareholders in real estate for $5,000.

Also, real estate crowdfunding can help investors reduce the risk that's associated with an equity portfolio. In other words, real estate crowdfunding helps investors to diversify the risk in their investment portfolios by not having all of their funds in the equity market.

Investment Limits for Crowdfunding

Since there are risks in any type of crowdfunding investment, the SEC has imposed investment limits for non-accredited investors. Below are the SEC's investment limits.

Less than $107,000

If either your annual income or your net worth is less than $107,000, then during any 12-month period, you can invest up to the greater of either $2,200 or 5% of the lesser of your annual income or net worth. 

More than $107,000

If both your annual income and your net worth are equal to or more than $107,000, then during any 12-month period, you can invest up to 10% of annual income or net worth, whichever is lesser, but not to exceed $107,000.