Crowdfunded Real Estate: Translating Buy Local Programs into Bricks-and-Mortar Projects

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The current economic climate has created a challenging environment for developers and municipalities looking to advance new development initiatives. With constrained lending markets and municipal finances, raising private-sector funds is critical. This has created new community development strategies, with community-supported movements such as “locavesting” and “slow money” supporting small business growth.

However, a more longstanding vehicle offers the potential to translate the buy local model into bricks–and-mortar projects. Investment clubs expanded in popularity in the late 1990s as investors flocked to the residential “fix and flip” phenomenon, but only a few communities have institutionalized this model as a tool to support downtown and community development. Although there are many privately focused networking groups known as investment clubs, whose primary purpose is to identify opportunistic stock or real estate investments, the groups profiled here are focused on the development, renovation, or purchase of real estate assets. Communities interested in applying a grow-local approach to development finance can learn from these innovative models to expand local capital availability.

Investment Clubs

Community-oriented real estate investment clubs are typically formed in response to a specific crisis or opportunity in the community. Examples of projects include averting the impending closure of a local landmark business, preserving local ownership of key properties, or providing the specific real estate infrastructure necessary to recruit new businesses to the community. In these situations, investment clubs are able to form and respond quickly to a situation which might otherwise require months of underwriting or analysis to obtain traditional loans or access supplemental grant funding. In many cases these clubs provide additional financing to close the gap between the developer and available private-sector lending.

This type of private funding provides increased flexibility and responsiveness within the community, increases the community’s total lending capacity, lowers project risk for traditional lending partners, and provides a measure of local project support. These benefits are especially useful in rural communities, which may have few or undercapitalized local lenders to support large projects. In many cases, large regional banks will question a rural project’s lack of comparables or require additional underwriting in an untested market. Less quantitative returns might include expanded community ownership and renewed interest in local investment. 

In practice, local investment clubs are usually structured as partnerships or limited liability companies that include wealthy individuals or institutions in the community. Club members invest personal funds either in the partnership itself, or in individual projects or holdings of the entity. Project-based ownership structures are popular due to the ability to create separate pools of investors for each project and therefore accommodate a larger number of investors overall. Clubs typically have a targeted rate of return as a measurement of investment worthiness, either on an annual or a project basis.

Investments may also be limited to a specific geography or property type, or they may simply target capital toward the promotion, preservation and advancement of the local economy. Profits from lease revenue or sale of holdings go toward repayment of investor contributions, plus a percentage of returns. It is common for a portion of the proceeds to go toward community projects (e.g., community art) or toward future projects.

Recent changes to Securities and Exchange Commission (SEC) regulations have created additional opportunities, although these mechanisms have not been fully tested in the market. Specifically, the 2012 JOBS Act opened the door for additional “angel” funding by allowing for a larger number of investors in a project before an entity is required to file with the SEC. These restrictions are especially relevant to the number of “non-accredited” investors, which generally refers to individual investors earning less than $200,000 per year. One specific new exemption, entitled the “Crowdfunding Exemption,” is intended to let these “regular Joe” individuals to make equity investments in projects, although they will still be limited to contributions of 5 percent of annual income by individuals making less than $100,000 and 10 percent for individuals making over $100,000. 

In addition to the emerging “crowdfunded” market, individuals may participate as non-equity investors in projects, contributing funds in the form of a loan or, more often, through membership in a new restaurant, club or other venture that is part of the project. This membership gives investors perks such as access to rewards like free meals, invitations to openings, and other non-monetary compensation. This newly expanded pool of potential investors has resulted in a number of websites intended to attract community financial contributions on behalf of a specific project. According to a report from Massolution, crowdsourced platforms raised $1.5 billion in total investments and funded more than a million projects globally during 2011, with overall investment projected to double in 2012. Of the crowdfunding platforms identified in the study, 42 percent are located in the United States, including fundraisers for business startups and philanthropic endeavors as well as real estate ventures.

In Practice

Many larger communities have established de facto investment clubs which include developers and other real estate industry professionals. Organizations such as the Escambia County Alabama Investment club pool assets of local investors. The Escambia County Club consists of 150-200 individuals willing to contribute $1,000 to quality projects. When new development opportunities arise, the group raises $150,000 from members to provide equity for a construction loan. While large community models provide useful information on organization and operations, the following case studies focus on organizations operating in small rural communities with fewer deep pocketed investors. The following case studies highlight examples of both traditional and emerging models of community investment that have created tangible evidence of their success by significantly influencing the built environment in their respective community.

Loup Valley Investment Club

Based in Valley County, Nebraska, the Loup Valley Investment Club is a limited liability company created to assist development projects in the community. The club, founded in 2006, has between 20 and 25 members who contribute to its investments. Investment guidelines initially included projects supporting real estate associated with business start-ups, expansions, and new speculative development. Contributions are made as direct investments instead of loans and are repaid through lease revenue or the sale or buy-back of assets. The group’s first project funded development of a 10,000-square-foot speculative industrial building, which was sold to an expanding local logistics company. 

According to Caleb Pollard, executive director of Valley County Economic Development, the community has also embraced online crowdsourcing, raising funding for the summer 2013 opening of a startup business, the Scratchtown Brewing Company. Using the local chamber website, Scratchtown offers Founders Club memberships for sale. Memberships, starting at $50, offer investors a variety of goods, ranging from marketing paraphernalia to the chance to brew a personal beer brand.

Renew Port Washington

Focused specifically on revitalizing downtown Port Washington, Wisconsin, Renew Port Holdings (RPH) was founded in 2009 by Port Washington residents to acquire and retain the beloved historical Harry’s Restaurant, which was threatened with demolition. The building was saved, and the restaurant retained.

The entity subsequently purchased several adjacent properties and is working to develop a locally oriented mixed-use district that reflects the historic character of downtown. RPH has also developed a sale leaseback model which it intends to market to downtown businesses. The model would provide businesses with capital to fund building improvements or business expansions while minimizing property management issues.

By raising capital from within the community, RPH can purchase, redevelop and rejuvenate Port Washington's downtown, while fostering the relationships and energy necessary for the success of the commercial district. Each RPH project is structured as its own business entity, usually a partnership. According to Gjerten Vandenbroek, president of RPH, ”having multiple ownership entities allows for participation by more investors, otherwise limited to 25 per entity. Welcoming a wide variety of local community members fosters the relationships and energy that Port Washington needs to prosper.”

Risks and Rewards

While there are many opportunities and advantages to a locally based investment model, as with any private investment, it does not come without risk to individual investors. Michael Shuman spells out many of the downsides of local investment in his book, The Small Mart Revolution. Some of these challenges include the difficulty of raising funds from a limited asset pool and the concentrated risk to investors from a localized economic downturn. However, the ability to do due diligence on investments and be an informed investor is also greater at the local level. Local investors have the ability to focus on investments that can improve the quality of the local economy.

Ultimately, the rapidly expanding world of crowdfunding creates an ideal environment for communities and development entities hoping to jumpstart investment within their communities. By uniting people’s desire to support their community with the ability to be part of a tangible project, local investment vehicles enable or accelerate projects that might otherwise stagnate. Not only do these funds fill the gap between project costs and private lending sources, they also offer a tool to expand desired amenities in the community and increase support for buy local programs by giving individuals a vested interest in the success of local businesses.