In a world where central banks have drastically reduced our ability to earn a decent yield, many alternative investment options have sprung up. One of them is real estate crowdfunding. These are private equity real estate deals, also referred to as syndicated real estate investments. Most such companies are open to accredited investors – those with high annual incomes or a net worth of $1 million+.
Of note, these are actively management investments. The “active” portion is where the company makes their fees. And fees can eat a hole into your investments.
Here is a short list of examples of current players. This list includes the ones which haven’t gone out of business, investigated for fraud, changed their names, or filed bankruptcy – that fun list is at the bottom of this post. Oh, and some of these companies are the same parent company just advertising under different names.
- Realty Mogul
- Fund That Flip
- 1031 Crowdfunding
- Carlton Crowdfund
- Realty Shares
- Peer Street
- Peer Realty
- Patch of Land
- Share States
- CK Mack
- Equity Multiple
- Fund Build
- Acquire Real Estate
It was fun doing a Google search for each of these names to make sure they are legit businesses with websites that I could link to. It was even more fun to reach each website’s tag-line.
The Tag Lines
Here is a list of the taglines which to me are selling a dream and less a viable investment vehicle:
- Streamlined Real Estate Investing
- A New Innovation For Real Estate Investing
- Unprecedented Access To High Quality Real Estate Loan Investments
- New Ideas. Timeless Values
- Real Estate Loans, Simplified
- Commercial Real Estate Investing For Discerning Investors
Bank of America has taglines too. The same company that had to be bailed out by the government in order to make it through the financial meltdown. Same with Chevrolet. Also, Vanguard has a tagline but their track record has earned them that.
Real Estate Crowdfunding Market
If you’ve followed your fave blogger or podcaster then you’ve seen that many have jumped on the bandwagon. So I thought it would be fun to run some numbers from the comfort of my sofa and see if real estate crowdfunding is a viable investment option.
The idea with companies such as RealtyMogul is that they allow accredited investors to pool their money together and invest it into the various deals or portfolios offered online. You are the investor and some random dudes are the forces on the ground putting together and acting out those deals.
You don’t own the piece of real estate, you don’t get to run it, nor do you get to put the deal together on your own terms. You don’t get to depreciate the real estate asset and you don’t get the benefits of a tax deduction.
Essentially it’s an investment where you have to trust someone else’s word and put your money into it while losing full control. To me that sounds like a stock or a bond or a mutual fund. I already invest in these and at least get some transparency and protection through the SEC. The securities market has also accumulated a lot of efficiency over the many years it’s been operating – most economic forces can be predictably accounted for.
Even more concerning is that these crowdfunded real estate deals are marketed as direct real estate investments. They are essentially trying to sell you the idea that you own the real estate and you are on the ground, doing the dirty deed and pocketing the returns.
Real Estate Crowdfunding Is Not Real Estate Investing
You are actually investing in one of the above companies, you aren’t investing in the real estate deals. The contract you have is between you and that 3rd party. The investment group then gets funded by that 3rd party and for that there is a nice premium.
Real estate is a lucrative business. You can make money as the lender, the developer, the auditor, the CPA, the inspector, construction company, or the landlord. Banks are all over it when it comes to lending money out to these real estate groups which build row homes and renovate large factories, etc.
These smaller projects which are advertised to Jane/Joe investor have very tight margins. One small mistake, one delay, or one lawsuit and all that profit will vanish. What I mean by small is anything less than $10,000,000. For private real estate investors anything under $10 million is considered a small deal.
But People Are Making Money!
The argument that crowdfunded real estate investing is solid because there are people making money is weak. These companies sprung up closer to the recovery of the major housing crash that we had in 2008.
A few factors to consider:
- this business model is too young
- it’s never been tested through a market downturn
- legislature hasn’t gotten its hands on it yet
- actual returns depend on too many unknown factors
- it’s hard to calculate the risks
- the investment is only as good as the crowdfunding website
- your money loses a lot of liquidity in such deals
How Much Will You Invest?
Keep in mind that the bloggers who are pushing such companies have made fat bills for advertising them. They are investing tiny bits of money compared to their net worth. For every 10% they are making as a return on their investment on the real estate crowdfunding platform, they are making 20% for you either clicking on their affiliate link or even more if you sign up with that company.
As for you, let’s say you invest $10,000. We’ll assume you made 15% on your money. Will you invest another $10k? Then what? If your net worth is $500k, will you add another $30k next in incremental steps? If so, that’s 10% of your net worth invested in an untested asset.
With $50k invested, that’s a potential annual return of $7,500 before tax. Is the risk worth it? I can make that money working four 12-hour shifts.
The point I am making is that it’s fine to invest $5,000, maybe even $10,000. But unless you know the inner workings of the company that is bringing you these deals and know the players involved, then you are just jumping on the big sexy bandwagon.
And what about next year when another newer investment idea springs up? How thin will you stretch your money when you could have invested in something that’s more tried and true? Below I’ll take your through what your money could have earned invested in REITs.
I am not going to suggest what you should do with your money alternative to investing it in real estate crowdfunding. But I want to bring your attention to REITs which have been around for a long time.
REITs are considered real estate investments through a mutual fund. A good example would be Vanguard’s VNQ exchange traded fund.
Here are the facts regarding REITs which isn’t all too different from real estate crowdfunding except for the advantage of longevity of REITs:
- you have a lot more liquidity
- rarely any minimum investment requirement
- there is a secondary market for you to sell your shares if you want to cash out early
- there is a middle-person which in this case is the brokerage company
- you don’t know much about the groups doing the real estate deals
The upside with REITs is that they are offered by often quite reputable brokerage houses. The real estate groups which do the on-the-ground work are likely more vetted. And because REITs have a much longer track record and because they are traded publicly, you get to enjoy a better transparency.
But What About REIT Returns?
A $50,000 investment in a REIT such as VNQ started 10 years ago would have nearly tripled once you account for the high dividend yields and the appreciation of the fund. That means, a $50k VNQ investment in 2007 would be worth over $150,000 in 2017.
The average annual rate of return of VNQ has been a little over 9%. So the question I would have for my colleagues is why they would want to invest in something that offers them 10-15% returns with a minimal track record and an untested business model when they can get the same returns from something that’s been around much longer?
I’ll ask the same question as above, if you got a sexy 10% return from investing in a VNQ, would you invest more? Let’s say you invest $50,000 in 1 year, would you invest even more than that?
The reason I ask this question is because I have the feeling that most of my healthcare professional colleagues don’t have the stomach for such high returns. Yes, the returns are there and proven and they are sexy. But the risk of having a lot of money in REITs is something that most can’t tolerate. There is more volatility and the same factors that affect stocks and bonds affect REITs on top if common real estate factors.
Real Estate Crowdfunding That Went Broke
Here is a brief list of companies that no longer exist because they didn’t make it or because they filed bankruptcy or for other reasons. Many of these companies got investigated for reporting fake volumes.
- Full Capital Stack
- Money 360
- Acquire Real Estate