Real estate investing is a common way to earn passive income without investing in the stock market. The only problem is that traditional real estate requires large amounts of money and time. However, real estate crowdfunding makes it possible for average investor to invest in private real estate without being a landlord or having to flip houses.
Crowdfunded real estate lets you directly invest in physical real estate properties across the United States. Some platforms only require you to invest $1,000 to get started. It’s possible to earn stock market-like returns with historical annual returns between 6% and 12%. The historical annual return for the S&P 500 is 7%.
While you shouldn’t solely invest in crowdfunded real estate, it can be an effortless way to diversify your investment portfolio while earning consistent passive income.
What is Crowdfunded Real Estate?
Crowdfunding is a relatively new investing concept. Before the 2012 JOBS Act, private real estate investing was reserved for high net worth “accredited” investors or having to buy the entire property yourself.
However, non-accredited investors – investors who make less than $200,000 annually or have less than $1 million liquid net worth – can now invest in private real estate with small amounts of money thanks to the JOBS Act. The one “catch” is that most platforms only offer non-accredited investors private real estate investment trusts (REITs) that hold a basket of properties.
To invest in individual properties, you will need to invest in real estate the old-fashioned way by owning rental property or flipping houses or become an “accredited investor.”
With Real Estate Crowdfunding, what do you actually invest in?
Every platform is different, but plan on investing in residential and commercial real estate. Typically, these investments have multiple tenants so you are less likely to have vacant properties that don’t earn income.
Residential properties are typically multifamily apartments, college student dorms, and construction of new single-family homes. Commercial properties are usually office buildings, shopping centers, and hotels.
Private REIT vs Public REIT
The most affordable way for average investors to invest in real estate is by holding public REITs that trade on the stock market. One example is the Vanguard Real Estate ETF (ETF Symbol: VNQ) that invests in 188 different residential and commercial real estate companies. Your cost-to-invest is the current share price. In May 2019, one share of VNQ costs $87.
Publicly-traded REITs are highly liquid. This means you can buy and sell them anytime the stock market is open. Most REITs pay an annual dividend between 4% and 5%, but the share price fluctuates. If the price drops more than the dividend yield, you “lose” money until the share price increases above the original purchase price.
Private REITs (crowdfund real estate) are very illiquid like regular real estate investing because you directly invest in properties instead of buying shares of the real estate company. Most crowdfund platforms require a 5-year investment commitment before you can make penalty-free withdrawals. In exchange for the long-term commitment, you can earn higher annual returns between 6% and 12% through monthly dividend payments and appreciating property values.
Equity Financing and Debt Financing
Crowdfund real estate REITs make money in two different ways, debt financing and equity financing.
Debt financing is when you lend money to a real estate developer or management company. You earn money through monthly rent payments and interest payments. This is investing strategy is less risky but also has lower historical returns. For example, you might only earn between 6% and 7% annually.
Equity financing is riskier and relies more on appreciating property values (i.e., flipping houses). Equity REITs may earn dividends from monthly rent and interest payments, but they primarily make money when a property sells. One example is renovating an existing property and selling it for a profit to a management company. This is how you can earn up to 12% annually.
Another difference between public REITs and crowdfund real estate is how your investment gains are taxed. Most public REIT dividends qualify for the discount capital gains tax where most taxpayers either pay 0% or 15% depending on their annual income. Unfortunately, crowdfund real estate gains are taxed as ordinary income like your day job or side hustle earnings which means you pay more in taxes.
Some crowdfund platforms offer Roth or Traditional IRA accounts that let you avoid the year-to-year taxes. This can be a wise choice if you don’t plan on touching this money until your retirement years.
Why Invest in Crowdfunded Real Estate?
Now that we know what real estate crowdfunding is, let’s look at why you should consider investing in it.
Less Stressful than Physical Real Estate
Besides only requiring a $500 to $1,000 initial investment, crowdfund real estate is less time-consuming and stressful than physical real estate. If you have a full-time job and a family, you may not have the time to be a successful landlord or house flipper.
This is one reason why Logan Allec likes crowdfund real estate investing.
Landlording comes with its own headaches and isn’t exactly “passive” income. Crowdfunded real estate, on the other hand, gives me the opportunity to invest in professionally-vetted real estate deals with no tenants, toilets, or termites to deal with! True story: just this morning one of my tenants sent me a picture of a termite swarm outside her unit!- Logan Allec @ Money Done Right
Crowdfunding is an easy way to invest in specific real estate markets. Besides being more susceptible to stock market volatility, public REITs require you to invest in the real estate company which may have assets in undesirable markets.
Andrew Herrig still owns some local rental properties but uses crowdfunding to invest in other markets. He can still earn physical real estate-type returns with less hassle.
Over the past couple of years, we have sold off some of our rental properties and moved that money into truly passive commercial crowdfunded real estate. In addition to not having to take maintenance calls from tenants, I also like the diversification across asset type and location provided by crowdfunding.- Andrew Herrig @ Wealthy Nickel
Crowdfund Real Estate Risks
Like any investment, there are risks that you should know about.
Private real estate can provide consistent investment returns, but only invest cash you don’t need for the projected investment period. Depending on the project, your money can’t be withdrawn penalty-free for up to 5 years. Plus, it can still take 60 days from the day you request a withdrawal to receive your funds.
Although crowdfund real estate investing is similar to private investing groups, this investing concept hasn’t been tested on such a widespread scale during a recession. Most crowdfund platforms launched after 2012 during a period of economic expansion. You may only wish to invest small amounts of money until real estate crowdfunding weathers an entire credit cycle.
Before making any investment, stocks or crowdfund real estate, Riley Adams recommends knowing the potential risks. Each platform produces an offering circular that is like an index fund prospectus. It states how your cash will be invested and the potential risks.
Know the consequences of what should happen were the company to go under while you have money invested. Do your due diligence to understand what could happen to your money in illiquid investments which do not have active market.- Riley Adams @ Young and the Invested
How to Invest in Real Estate Crowdfunding
Investing in crowdfunded real estate is very easy. In most cases, you only have to create an account, link your bank account, and transfer enough cash to make an initial investment.
Because some platforms are only open to accredited investors, the following section is divided into platforms that accept non-accredited investors and those that only allow accredited investors.
While there are plenty of crowdfund real estate platforms, these are some of the largest and most well-known platforms. Each of them may have a slightly different investing strategy.
Real Estate Crowdfunding for Non-Accredited Investors
Most investors are “non-accredited investors” because they don’t have a high annual income or net worth. You fall into this category if you don’t meet one of these two requirements:
- Annual income above $200,000 ($300,000 including a spouse’s income) for the last two years
- Net worth above $1 million, with or without a spouse’s assets, excluding the value of your primary residence
The most common crowdfund real estate investment for non-accredited investors are private REITs. You will invest in a portfolio of properties the crowdfund platform owns. While you don’t get to handpick which properties you invest in, this also make real estate investing easy.
Minimum Initial Investment: $500
Fundrise invests in residential and commercial properties located across the United States. A $500 starter investment splits your portfolio between a debt and equity financing REIT. Once your account balance reaches $1,000 you can invest in advanced investing plans that focus more on debt (less risky and lower potential annual returns) or equity (more risk but potentially higher annual returns) projects.
Minimum Initial Investment: $1,000
Maybe you want to diversify away from residential real estate and retail shopping centers that your current real estate investments hold. The stREITwise 1st stREIT Office REIT invests in multi-tenant office buildings in outlying suburbs near large American cities. This REIT has a target annual dividend return of 10%.
Minimum Initial Investment: $10
If you’re willing to assume more risk or spend more time researching prospective properties, Groundfloor lets you invest in individual properties. Usually, the ability to invest in single properties is only available to accredited investors. If you have previous real estate experience, you may enjoy the flexibility that Groundfloor offers to invest in fixer-uppers without performing any of the hard work.
You invest in short-term loans for 6 to 12 months to improve single family homes and multifamily apartments. Groundfloor assigns open loans a risk rating between A and G. A-rated loans are the least risky and can earn 5% annually while G-rated loans are the riskiest but can earn 25.5% annually.
Like personal loan peer lending platform LendingClub, it’s a good idea to invest in loans of different credit ratings to earn a potential 10% annual return without investing recklessly. If this idea sounds like too much work, private REITs are a better option because you can let the experts choose the investment properties for you.
Real Estate Crowdfunding for Accredited Investors
If you qualify as an accredited investor, you have more investment options. Although you might enjoy the simplicity of private REITs, you can earn potentially higher returns by using accredited investor-only platforms. Keep in mind, you will need to invest more upfront and will most likely need to select individual properties.
Minimum Investment: $1,000
PeerStreet is one of less-risky accredited investing options because you invest in debt financing loans that with a 6-month to 24-month maturity date. Most loans have a 6% to 9% annual return. Also, many loans only require a $1,000 minimum investment, but PeerStreet recently introduced an automatic reinvestment program that means you may only have to invest $100 at a time.
Minimum Investment: $5,000 to $10,000
For debt and equity financing, EquityMultiple lets you invest in individual commercial properties. Most deal require a minimum $10,000 investment but others only require a $5,000 investment. What helps make EquityMultiple unique is they also co-invest in each loan so if the investment loses money, EquityMultiple loses money as well. This extra skin in the game helps motivate EquityMultiple to have a more extensive underwriting process to only choose loans that are most likely to be profitable.
Minimum Investment: $25,000
Crowdstreet requires a $25,000 minimum investment but you have the option of earning larger annual returns from commercial properties. Historical returns can be as high as 20% which is higher than many platforms tend to be closer to 12% per year.
If you’re comfortable in letting Crowdstreet pick the properties for you, their Blended Portfolio holds between 30 and 50 properties.
Real estate crowdfunding can be an effortless way to invest in private real estate when you don’t have the time, money, or skills to flip houses or own rental property. Although this investing idea isn’t risk-free, it’s a legit way to diversify your investments and still have the opportunity to earn stock market-like returns.