September 14th, 2010 marked the 50th anniversary of Real Estate Investment Trusts in the U.S. For the first time, REITs brought the benefits of commercial real estate to the average investor. Since then, investors have risen to the opportunity and today U.S. REITs constitute a more than $300 billion equity market, with an average daily trading volume of about $4 billion. Globally, REITs and listed property companies constitute a more than $700 billion industry, making listed REITs and the real estate investment universe collectively a more than $1 trillion market.
However, with crowdfunding now on the scene, many are wondering if crowdfunding could actually be the new REIT. Some industry experts think it could be as crowdfunding is a powerful means of accessing social capital for businesses, philanthropy and personal projects, and that can certainly involve real estate. Where REITs gave the average investor the opportunity to invest remotely in real estate as an amorphous asset class, crowdfunding brings the opportunity to invest in local assets and enterprises directly to the people who are most interested in their long term success - stakeholders in the surrounding community.
Crowdfunding allows social and business entrepreneurs to access funding online directly from donors and investors. Currently, donations, rewards, and lending based crowdfunding are legal in the U.S. for virtually any kind of project; with no upwards cap on what can be crowdfunded. The JOBS Act legalizes equity based crowdfunding but the SEC is still currently defining rules. As of now, equity fundraisers will have raise ceilings of $1-2m/year/entity, while investors can be accredited and non-accredited, according to their income and net worth over a prior 12 month period.
Interestingly, crowdfunding is unique in that it gives a voice to a new set of stakeholders who desire more than just financial returns. With crowdfunding, investors and donors not only consider traditional return models of sale, refinancing and distribution, but they are also driven by the desire to be part of a greater cause. The feeling of participating in crowdfunding a community building, a new hospital for children, a local farmer’s market facility, or, just being involved in supporting local enterprises are some of the new reasons the crowd will invest in business ideas and innovative real estate projects. Moreover, crowdfunding is already taking hold as a means of financing startups in the real estate supply chain, including alternative energy and solar, green buildings, materials and technology and service companies.
While crowdfunding may not be for all real estate endeavors, it certainly seems to be a match for certain kinds of real estate, especially public, neighborhood and pre-institutional projects. Consider four primarily real estate driven scenarios: a) community development, b) leasehold, c) development projects, and, d) acquisitions.
For communities, crowdfunding is a serious win using donation-rewards.
Non-profit organizations can crowdfund donations-rewards with no upward cap for any kind of project. This is an amazing opportunity for people who live in a community to participate in making it come to life. Government projects that benefit the community are a match as well. Consider building a playground funded by the people who will use it, and their friends, and so on. Take crowdfunding a step further to include infrastructure. Donation-rewards is an opportunity to contribute to the development of important public spaces.
For leasehold, crowdfunding is an enterprise financing tool that leads to real estate.
Crowdfunding for businesses is an enterprise financing mechanism with funds being used for either specific initiatives or general operations. Consider a local bakery crowdfunding the next stage of its growth, including graduating from the home kitchen. As with every business, real estate will be an important decision in operating a fledgling business, along with deciding to fund it in part from a crowdfunded capital injection. Investing and donating in enterprises where real estate plays an important part in the success of the business is an opportunity to help the businesses that are the backbone of sustainable communities get started and to prepare for future growth.
For development and acquisitions, the JOBS Act may be the game changer.
Financing specific development activities with donation-rewards based crowdfunding could work as well as crowdfunding for any project. The question is, does the developer have a compelling project that has public interest and benefit. However the JOBS Act brings in several new changes that are suited for complex transactions that could dramatically affect the real estate capital markets landscape.
Title III of the JOBS Act acts opens equity crowdfunding for investable enterprises. This could be a very important stimulant for local real estate investment segments that are below the institutional radar. Entrepreneurs can crowdsource between $1m-$2m a year, making crowdfunding equity for real estate deals sized between $1m-20m a real possibility for capital formation on projects that deliver cash flow and returns from long term holds.
Another important JOBS Act benefit is the change under Title IV to Regulation A exemptions which raises the threshold for funds being raised with the exemption from $5m to $50m. Developers who own their properties will be able to go to the crowd to capitalize their projects using this little used exemption. In addition, Title II of the JOBS Act could unlock significant capital for real estate fund investment. Title II -Access to Capital for Job Creators - lifts the 78-year old ban on "general solicitation" and "general advertising" by private equity funds, hedge funds and other entities tapping the private capital markets.
This is all potentially game changing. No longer tied to the definition of pre-existing and substantive relationship with investors, alternative asset managers raising capital in the private markets will able to communicate with the general public – via websites, press releases, interviews with the media, etc.to raise awareness and funds. This new regulatory framework is a unique opportunity for alternative asset managers to approach accredited investors with a completely different value proposition, and more effectively position and market themselves to key external audiences. This is a regulatory environment that has the potential to foster formation of new funds with specific missions to invest in responsible community development.
Another avenue opening more prominently with the JOBS Act not related to crowdfunding is EB-5 financing, where foreign investors invest between $500k-$1m and receive a green card. Projects must prove a threshold job creation/EB-5 unit and be registered with Regional Centers as designated projects.
Of course, while crowdfunding definitely adds an innovative and unique financing approach to the mix, it does not do away with traditional financing options for real estate projects – especially large scale commercial projects. However, through social media technology and crowdfunding techniques, costs for key phases of large commercial real estate projects could be covered. For example, raising capital for a feasibility study, architecture plan, leasing and marketing plan, or even down payments and rent for a building, are all very doable in the crowdfunding space. However, construction loans and/or other investment sources may still be needed for covering large commercial projects in more traditional ways. In this case, crowdfunding should be viewed as part of your funding portfolio, but not necessarily as your only resource.
Obviously, the marriage between high-tech and traditional finance is presenting a paradigm shift in raising capital, while also ushering us into a new era of how to do business in the real estate world.
Elizabeth Smith Kulik is the founder and CEO of ProHatch, a crowdfunding organization that specializes in promoting expertise and education to the emerging crowdfunding sector. The company’s executive team has extensive experience in creating large scale real estate value for domestic and global entities. In addition, ProHatch has a unique Phase-to-Raise TM Crowdfunding process, which delivers a high level of social transparency and accountability between entrepreneurs and investors. ProHatch is working to partner with entrepreneurs, start-ups, SMBs and communities to optimize their financial and business goals.