How the Crowdfunding Model is Coming to Real Estate
by Jason Van Steenwyk
We’ve all heard a lot about the crowdfunding revolution when it comes to funding big and small for startups, small businesses, socially responsible ventures, and the like. But what about when it comes to real estate?
Keep your eye on this trend in 2013 – it might just spread like wildfire.
How Peer-to-Peer Lending Grew
The real estate crowdfunding story began with lending. “Peer-to-peer” networks like Prosper.com created a forum that allowed people who needed to borrow money with people who wanted to lend it – at a substantial interest rate.
Despite some big default numbers – par for the course with small, unsecured business loans of this type – Prosper was a roaring success, with over $437 million in funded loans to date.
Prosper was the first substantial, large-scale peer-to-peer lending network to appear on the Web – and a pioneer of sorts: It demonstrated that it was possible to “securitize” loans as small as $2,000, and distribute them to investors who contributed amounts in increments as small as $25.
This made it much easier for small business owners (and others needing to borrow for debt consolidation or any other purpose) to obtain capital, and much easier for small investors to get bigger returns on their money – uncorrelated with stock market returns.
The model had obvious application to debt-financed real estate transactions. Money360.com came about as a way to package hard money lending deals to investors in amounts as small as $25,000. Unlike Prosper.com, which slices up unsecured debt for investors, Money360.com loans are typically secured by the underlying property.
Crowdfunding: From Debt to Equity
If crowdfunding works with credit, it should theoretically work with equity funding, too – and it wasn’t long before entrepreneurs were trying to put together a crowdfunding solution for equity financing for small business startups as well. An early iteration – an attempt by two ad executives to raise money to buy beer brewer Pabst Blue Ribbon via crowdsourcing small contributions – was blocked by the SEC. The Feds considered crowdsourcing to be selling securities – and these guys weren’t licensed.
But this year, Congress passed the JOBS Act, which, in part, contained language to allow for raising equity financing via crowdsourcing, as long as it was done by a licensed intermediary, it didn’t represent too big a portion of an individual investor’s net worth or income, and there was no advertising of individual deals: crowdsourcers can only advertise the portal website itself.
While final regulations are still pending, this legislation cleared the way for sites like – and going beyond – Kickstarter.com.
How Collaperty Works
In a way, it was only a matter of time before the crowdsourcing model came to real estate.
Collaperty – a combination of the words “collaborate” and “property” looks to become the Kickstarter.com of the real estate industry. The site, currently still in beta, bills itself as “The first social commercial real estate network.”
Now, while Prosper.com had two kinds of accounts – borrowers and lenders – Collaperty has three account types: investors, sponsors and sellers.
Investors are people looking for return on capital.
Sponsors are intermediaries. They bring investment opportunities to the attention of investors, and seek to connect investors and sellers.
Sellers are those seeking to sell property. This group can include current property owners, agents and brokers.
Real Estate Crowdfunding: A Mixed Blessing?
The potential is immense: Real estate is a notoriously inefficient market. I use the term “inefficient” in a positive sense: It has retained an old-fashioned sales model with high commission cost structures both for real estate agents and mortgage brokers. Property flippers have been able to make a very good living exploiting mismatches between price and value – usually with a little TLC on the property to turn an unmarketable property into something more desirable.
Collaperty’s founders believe that the high barrier to entry to the real estate market contributes to market inefficiency. It just takes too much money to get into the game – and that means opportunities are missed, for sellers, intermediaries and investors alike.
If Collaperty is successful, a lot of capital will come into competition with a few smaller investors that are currently making deals in the sub-$1 million dollar range. That is, small properties that fly well below the radar for institutional real estate investors, such as hedge funds and REITs. Collaperty would make it much easier for these players to get involved in these properties.
At the same time, Collaperty potentially makes it much easier for sellers to find buyers with access to capital. If the model takes hold, Collaperty and sites like it will potentially cause investors to bid up real estate prices, while freezing traditional agents and mortgage brokers out – and ditto their commissions. That alone will save up to $6,000 per $100,000 – the traditional real estate broker’s commission, though it’s getting tougher and tougher for agents to get even that.
The value of bird-dogging deals – a traditional point of entry for people without access to much capital, but who are willing to bust their tails looking for opportunities in exchange for a finders’ fee – will decline.
The end result is that bid/ask spreads and trading costs will narrow – and so will the opportunities for intermediaries to profit.
There Will Be Winners and Losers
If successful – and early indicators are promising – crowdfunding’s first winners will be those who create the matching engines that put buyers and sellers together. The other winners will be ‘purer’ investors. These are the ones who simply put money to work – not the ones who have been running around putting in sweat equity by scouring neighborhoods and canvassing residents for high-margin deals.
Property sellers, of course, will benefit, because the more capital flooding the small property market, the higher property prices should go. The law of supply and demand is at work.
Potential losers: Real estate agents left out of the process, mortgage brokers and banks. Angel investors and hard money lenders – or rather, those who act as the heads of these groups operating in the real estate space – could get iced out as well: Their investors can simply ‘go direct’ using Collaperty, or something like it.
It’s too early in the game to predict how disruptive the Collaperty approach will prove to be. Kickstarter.com just hit its stride last summer, and Prosper was funding deals that conventional lenders wouldn’t touch anyway, so disruptive effects were minimal. So far.