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Real Estate Crowdfunding vs REIT: The Real Truth

Updated: Mar 3

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Real Estate Crowdfunding vs REIT
Real Estate Crowdfunding vs REIT

Introduction

The world of investments is ever-evolving. The realm of real estate investing has seen a rise in alternative options. These options are not just for the well-heeled or the insider; they're increasingly accessible to ordinary investors seeking passive income and portfolio diversification. This growth in alternative investments has sparked a debate: which is better, traditional REITs (Real Estate Investment Trusts, not to be confused with eREITs) or the burgeoning world of real estate crowdfunding?


Both avenues present opportunities for both accredited and non-accredited investors to dip their toes into the vast pool of real estate investing. But as with all investments, it's essential to understand the basics, the risks, and the potential returns. This article delves deep into REITs, comparing them with real estate crowdfunding to guide you on the best path for your investment goals.



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What is a REIT (Real Estate Investment Trust)?

Definition and Basics

A Real Estate Investment Trust, commonly known as a REIT, is a company that owns, operates, or finances income-producing real estate. They offer a way for individual investors to earn a share of the income produced through real estate ownership without having to buy or manage properties themselves. REITs are typically publicly traded on major stock exchanges, making them easily accessible for most investors.


There are regulatory requirements for REITs to ensure they focus on real estate investing. For instance:

  • A minimum of 75% of a REIT's assets must be invested in real estate, cash, or U.S. Treasuries.

  • 75% of gross income should come from real estate-related sources.

  • They must distribute at least 90% of taxable income to shareholders as dividends annually.

Advantages of Investing in REITs

  • Diversification: REITs often own multiple properties across various property types, offering investors a diversified portfolio.

  • Dividend Income: Since REITs are required to distribute a significant portion of their income, they tend to have higher dividend yields, making them attractive for those seeking regular income.

  • Liquidity: Being publicly traded means REITs offer liquidity. Investors can easily buy and sell shares, unlike direct real estate investments.

Disadvantages of Investing in REITs

  • Lack of Control: Investors don't have a say in the specific properties the REIT invests in or how they are managed.

  • Potential for Lower Returns: Due to fees and the nature of being a passive investment, returns might be lower vs direct real estate investments.

  • Fees: REITs may have management fees that can eat into overall returns.



What is Real Estate Crowdfunding?

Definition and Basics

Real estate crowdfunding is a modern approach to real estate investing where individuals can invest small amounts of money, either equity or debt, into specific real estate projects. Instead of purchasing an entire property or a share of a large REIT, investors can pick and choose individual projects that align with their investment goals. This method of investing has gained immense popularity, especially among younger, tech-savvy investors.


The rise of technology platforms has played a pivotal role in the growth of real estate crowdfunding. These platforms connect developers and project sponsors directly with individual investors, removing many traditional barriers to real estate investing. With the aid of technology, even non-accredited investors can access investment opportunities that were once reserved for the wealthy or institutional investors.


Advantages of Real Estate Crowdfunding

  • More Control Over Specific Investments: Unlike REITs, where investors have no say in specific properties, crowdfunding platforms allow investors to choose which projects they want to invest in.

  • Potential for Higher Returns: By investing directly in specific projects, there's potential for higher returns, especially if you pick the right projects.

  • Ability to Start with Smaller Capital: Many crowdfunding platforms have low minimum investments, making it easier for novice investors to get started.


Disadvantages of Real Estate Crowdfunding

  • Less Liquidity Compared to REITs: Investments in crowdfunding projects are typically locked in until the project is completed or sold, making them less liquid than REITs.

  • Risk of Platform Insolvency: As with any online platform, there's the risk that the platform could go under, potentially impacting your investment.

  • Relatively New, So Less Historical Data Available: Real estate crowdfunding hasn't been around as long as REITs, so there's less historical data to analyze when making investment decisions.

Key Differences: Real Estate Crowdfunding vs REITs

When comparing REITs and real estate crowdfunding, several critical distinctions emerge. Both offer unique advantages and potential drawbacks, making them suitable for different types of investors. Below, we've highlighted the primary differences based on several crucial factors:


Liquidity: How quickly you can get your money out

  • REITs: Being publicly traded on major stock exchanges, REITs offer higher liquidity. Investors can easily buy or sell their shares, similar to stocks, providing flexibility in managing their investments.

  • Real Estate Crowdfunding: Investments are typically less liquid as they're locked in for the duration of a specific project or until a property is sold. Early withdrawals or sales might be challenging or come with penalties.

Diversification: The types of real estate you invest in

  • REITs: Generally offer a broad diversification as they invest in multiple properties across various sectors and regions. This spreads the risk and can provide stability to the portfolio.

  • Real Estate Crowdfunding: The level of diversification depends on the investor's choices. One can diversify by investing in multiple projects, but each investment is generally project-specific.

Control Over Investments: Do you have a say

  • REITs: Investors have little to no say in the specific properties a REIT invests in. Decisions are made by the REIT's management team.

  • Real Estate Crowdfunding: Investors have more control as they can choose specific projects they want to invest in, tailoring their portfolio to their preferences.

Potential Returns: How much will you make

  • REITs: Tend to provide stable returns, especially those that focus on high-dividend properties. However, after management fees and other expenses, the net returns might be lower than direct investments.

  • Real Estate Crowdfunding: The potential for returns can be higher, especially if investors select high-performing projects. However, the risk is also elevated since returns are tied to the success of individual projects.

Risks Involved: Will you get your money back

  • REITs: Risks are spread across multiple properties and sectors, providing some level of insulation against market downturns. Still, REITs are susceptible to market volatility, similar to stocks.

  • Real Estate Crowdfunding: Risks are more project-specific. If a particular project fails or underperforms, it can impact the investment. Additionally, there's the risk of platform insolvency and the relatively untested nature of this investment model compared to the long-standing REIT structure.

Which is Right for You? REITs or Real Estate Crowdfunding

When navigating the world of real estate investing, it's vital to understand which investment vehicle aligns with your personal goals and risk tolerance. Whether you lean towards real estate crowdfunding vs REITs, both offer unique advantages and potential challenges.


Consider Your Investment Goals

  • Long-term vs. short-term: Are you looking for a long-term investment that provides steady dividends, or are you interested in shorter-term projects with the potential for higher capital gains? While REITs generally cater to long-term passive income seekers, real estate crowdfunding can offer both short and long-term investment opportunities.

  • Desired level of involvement: If you prefer a hands-off approach, REITs might be more your speed. However, if you relish the idea of being more involved and picking specific projects, real estate crowdfunding allows for that deeper engagement.


Think About Your Risk Tolerance

  • Stability vs. Volatility: REITs, with their diversified portfolios and regulatory oversight, often offer a more stable investment. In contrast, real estate crowdfunding, being project-specific, can be more volatile, with the success of your investment tied to individual projects.


Conclusion

The debate between REITs and real estate crowdfunding isn't about which is universally better, but which is better for you. Both offer pathways into the lucrative world of real estate investing, but they cater to different investor profiles.


REITs, with their passive income potential, liquidity, and diversification, offer a more hands-off approach. On the other hand, real estate crowdfunding provides investors with more control, the potential for higher returns, but also a higher degree of risk.


The key is to conduct thorough research, understand your own investment goals and risk tolerance, and choose the avenue that aligns with your financial aspirations.


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