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Real Estate: Crowdfunding for Residential Properties

By July 28, 2020December 20th, 2020No Comments

Crowdfunding and Peer to Peer (P2P) transactions are a gateway for borrowers to find financial solutions. They allow lenders and borrowers to find and negotiate directly without the need for intermediaries.  The borrower generally benefits with a reduction in borrowing costs (Gibilario and Mattarocci 2018).  A key distinction among crowdfunding versus conventional lending is that crowdfunding is typically completed online, without the need for brick and mortar locations.

Hollas (2013) argues that crowdfunding offers enhanced efficiency as online portals offer borrowers and lenders self-serve tools to streamline the transaction and shorten the time required to procure financing for both parties. Online tools eliminate the need for both parties to have representatives, consultants, advisors, and other industry experts (Hollas). Traditional transactions for traditional financial institutions are more expensive for both the lender and the borrower and have longer decision-making schedules and inefficient procedures.

Land developers have been early adopters of crowdfunding as an option in contrast to progressively conventional methods early-stage financing.  Wolfe and Yoo (2018) found that residential borrowers with high-risk profiles are generally early adopters to creative online financial offerings.

The US Securities and Exchange Commission has set up guidelines for non-accredited investors to minimize their exposure associated with crowdfunded. There are regulatory limitations based on an investor’s annual income and maximum funding amounts one can invest in crowdfunding (Burkett 2011). For those with annual income is under USD$107,000, they are limited to five percent of their annual income, and for those with annual income above $107,000, they are permitted to invest or lend up to 10% of their annual salary. Based on the legislative limitations in the United States, direct peer to peer lending will generally not be feasible for real estate lending, therefore P2P will be better suited to microloans, however, crowdfunding remains a viable option for real estate.

Crowdfunding has created the opportunity for real estate entrepreneurs to raise millions of dollars from anyone with money to invest

Crowdfunding offers investors the opportunity to invest in real estate while reducing borrowing costs for their clients and improving investment yields by eliminating the intermediary.  Crowdfunding allows borrowers to access funding without the need for a centralized financial institution by directly matching them to a lender. The number of P2P lending platforms has increased and several new algorithms are being developed that allow for processing big data to better align the risk profiles of the two parties.

Montgomery et. al. (2018) are unable to find scholarly research that supports crowdfunding as a meritorious threat to traditional financial institutions. However, much of their research based on their analysis of disruptive innovation theory from the mid-1990s. The authors fail to contemplate the potential for crowdfunding to become more accessible and cost-efficient as online platforms mature.  The authors also apply a linear calculation to their research hypothesis, they do not contemplate the exponential growth potential of emerging technologies.  Wessel and Christensen (2012) postulate that the disruption of an industry manifests itself over a significant amount of time.

While the prevalence of crowdfunding is generally low in real estate, the opportunity for the proliferation of real estate crowdfunding remains tremendous in the coming years.

 

References:

 Burkett, E., 2011. A Crowdfunding Exemption-Online Investment Crowdfunding and US Securities Regulation. Transactions: Tenn. J. Bus. L., 13, p.63.

Gibilaro, L., and Mattarocci, G., 2018. Peer-to-peer lending and real estate mortgages: evidence from United Kingdom. Journal of European Real Estate Research.

Hollas, J., 2013. Is crowdfunding now a threat to traditional finance?, Corporate Finance Review, Vol. 18 No. 1, pp. 17-22.

Montgomery, N., Squires, G., and Syed, I., 2018. Disruptive potential of real estate crowdfunding in the real estate project finance industry. Property Management.

Wessel, M. and Christensen, C.M., 2012. Surviving disruption. Harvard Business Review, 90(12), pp.56-64.

Wolfe, B., and Yoo, W., 2018. Crowding out banks: Credit substitution by peer-to-peer lending. Available at SSRN 3000593.

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