Crowdfunding

5 Important Questions About Real-Estate Crowdfunding

5 Important Questions About Real-Estate Crowdfunding
Image credit: Shutterstock

Real estate crowdfunding has gained traction in nearly every form of real estate investment. From single-home flips to new commercial builds, both seasoned investors and novices are looking to get their foot in the door. The $1 billion in such investments here in the United States alone has proven that real estate crowdfunding should be taken seriously.

Related: Real-Estate Crowdfunding Set to Top $2.5 Billion This Year

Surely you've heard of Kickstarter, GoFundMe and Indiegogo. These sites put crowdfunding on the map by allowing millions of investors, startups and individuals to raise the capital they needed to fund their respective projects. Silicon Valley has already produced several prominent real estate-specific crowdfunding sites.

And considering that these sites have raked in hundreds of millions in investments, real estate crowdfunding may now rate as a mainstream form of investment. Even 3 World Trade Center, in Manhattan, was opened up to investors via online crowdfunding.

Indeed, real estate crowdfunding has exceeded expectations. Well-established mortgage lenders and financial firms have expanded their online presence by creating crowdfunding platforms for all types of investors -- mostly as a result of the crowdfunding clause in the 2012 JOBS (Jumpstart Our Business Startups) Act, which went into effect in late 2013.

Title II of JOBS, created by the SEC, has paved the way for democratizing crowdfunding in nearly every industry. This law also opened up the possibility of advertising crowdfunding, but restricted that activity to accredited investors.

So, you’re probably wondering: Is real estate crowdfunding right for me? While it may seem like just another tech fad, this form of investment is actually legitimate and encompasses many of the risks (and benefits) of traditional investment.

Its often-low investing minimum (as little as $5,000 in many instances) makes it perfect for established investors who are looking to diversify their portfolios, as well as those with lower financial resources, to give it a try.

What do you need to know about crowdfunding in real estate before getting started? These are some of the most common questions.

1. What are the main methods of crowdfunding?

In debt-based crowdfunding, investors lend money under the premise that they will receive a return on their investment over a certain period of time and at a particular interest rate.

Reward-based crowdfunding lets investors receive a tangible item or service in exchange for their loan. The reward is not in the form of money or equity.

The equity-based method requires that investors receive a stake in the company. Investors may receive dividends or a distribution of the profits earned as compensation.

In donation-based crowdfunding, contributions are just that -- donations. They go toward a charitable cause with nothing expected in return (other than altruistic feelings, of course). 

2. For borrowers, what are the advantages of crowdfunding over traditional lending?

For investors looking to diversify their portfolios, real estate crowdfunding is a simpler way to get into the real estate investment market. Companies hosting real estate crowdfunding take care of the paperwork and due diligence (not to say that you shouldn’t still do your own research as well).

Those companies know that these properties tend to have a higher rate of success. That's due, in part, to the fact that in this particular kind of crowdfunding, the properties have already been backed by a mortgage lender or other financial institution.

Related: Crowdfunding's Next Hot Frontier: Real Estate

3. What’s the borrowing process like?

Because it uses a third party to facilitate the investment, the borrowing process for loan seekers is usually more streamlined than the one for conventional borrowing. Borrowers have a representative who will guide them through the process, facilitate inquiries from potential investors and ensure that deadlines are met.

The initial mortgage backer wants the project to succeed, so he or she is dedicated to securing more investors for the project and guiding borrowers through "best practices."

4. What type of information is needed to borrow?

As happens with traditional loans, borrowers need the same basic information they would for a crowd-funded loan, along with detailed records and documentation of their investment plans.

Borrowers may need to provide the following items:

  • Proof of funds (for down payment, closing costs, etc)
  • Credit report
  • Inspection report of property
  • List of assets
  • Purchase contract
  • Construction budget estimate and timeline
  • Borrower biography (for crowdfunding website)
  • Proof of any applicable insurance policies

5. Who can be a real estate crowdfunding investor?

In most states, investors must be accredited to participate in real estate investments. To be an accredited investor in the United States, investors must make a minimum of $200,000 per year or have $1 million in assets.

Real estate crowdfunding, in sum, isn’t going away any time soon. Is it time for you to get in the game?

Related: Top 4 Crowdfunding Developments and Predictions for Asia in 2015