Real estate crowdfunding vs. real estate crowdlending: key differences
In both cases, the goal is to bring together many investors to provide funding to a real estate developer for project development. Both modalities offer small investors the opportunity to achieve returns in the real estate market, but they differ in their structure and benefits. In this article, we will discuss the fundamental differences between real estate crowdfunding and real estate crowdlending.
Although real estate crowdlending is a modality of real estate crowdfunding, we will differentiate them here. So, how does crowdfunding work?
What is real estate crowdfunding?
Real estate crowdfunding is a form of participatory investment and, at the same time, a financing avenue. The basic idea is simple: many people come together to pool the capital needed for a real estate project. The developer receives this funding, while participants also become real estate investors. Since there are many participants, each can contribute a small amount of money – at Urbanitae, the minimum investment is 500 euros.
On real estate crowdfunding platforms, the term crowdfunding is often reserved for equity projects. In other words, for projects in which investors enter the capital of the project they are financing.
Example of real estate crowdfunding
Let’s illustrate with an example. Imagine a developer wants to build a housing development in an attractive area where there is already commercial interest. For construction, the developer will seek financing from banks. However, before that, they need to complete the land purchase and require capital. Since banks usually do not get involved in this phase of the project, the developer turns to a real estate crowdfunding platform.
In these equity projects, investors and developers become partners and shareholders in the same company (an SPV created for this purpose). As partners, they assume the same risk and share the profitability generated once the project is completed. In equity crowdfunding projects, target returns are typical of real estate development, between 15% and 20% annually.
What is real estate crowdlending?
In the case of crowdlending, the needs of the developer are somewhat different. The developer is seeking debt financing, but the bank either has not granted it or may take too long to do so. Why? In smaller developments, the bank carefully studies the operation before providing financing, as it may not be worthwhile, especially when, unlike before 2019, the bank does not automatically keep the mortgages of the buyers of the homes in the development.
How does real estate crowdlending work?
In these debt projects, investors become lenders to the developer: their contributions are also pooled in an SPV, which grants the loan, usually at a fixed rate. After the set period, the developer repays the capital to the investors, plus accrued interest.
Differences between real estate crowdlending and real estate crowdfunding
We have seen that both crowdfunding and crowdlending are alternative financing formulas, in this case, for real estate developers with different needs. But what are the implications for the investor?
Return on investment
By entering an earlier phase of the project, investors in equity crowdfunding take on more risks than in real estate crowdlending. Therefore, returns are higher, specifically between 50% and 100% higher. This is one of the clearest advantages of crowdfunding.
To achieve returns in a real estate crowdfunding project, you have to wait for its conclusion: the development must be completely constructed and fully sold. Once the new homes are delivered to their owners, the specially created project company is dissolved, and profits are distributed among its shareholders, always in proportion to their contributions.
There are various risks. Estimated sale prices may turn out to be too high, and they may need to be lowered to sell the homes, reducing the final profitability. Delays in sales could lead to a delay in granting the developer loan and, therefore, in the project’s timeline. Construction costs may also rise, affecting profitability.
However, in debt projects, the risk is lower because the return on investment does not depend on the project’s success: it is the initial sales that pay off the loan. In equity, it is the opposite; the last sales generate the profit.
One of the disadvantages of real estate crowdfunding is the lack of specific guarantees. In crowdlending projects, the loan agreement establishes guarantees to ensure the capital’s repayment. Generally, the loan’s value (loan-to-value or LTV) never exceeds 65-70% of the asset’s value. It is common to take a first-ranking mortgage on the asset: in case of default, investors acquire the property. And since the LTV is low, selling it would generate enough capital to repay the principal and interest.
It is also common to pledge the shares of the company so that, in case of default, investors also become owners of the shares.
One of the advantages of real estate crowdlending is that the project’s timeline is shorter. That is, you have to wait less to recover the investment. We are talking about timelines between 12 and 24 months. In equity crowdfunding projects, timelines are longer – and subject to more variations – usually between 18 and 36 months.
Now that you know the main differences between crowdlending and real estate crowdfunding, you can decide if your investor profile aligns more with one or the other modality. Platforms typically specialize in one of them. Although more focused on equity, Urbanitae allows you to invest in both types of projects, with good results: 16% average profitability and 0% of projects with losses.