Real Estate Crowdfunding Regulations Explained

This article was originally published on April 20, 2020 and updated June 29, 2022.

Have you ever wanted to own an investment property, but you just don’t know where to start? Maybe you’re trying to diversify your portfolio to include the real estate sector, but you don’t know how to operate a rental. Real estate crowdfunding can open the door to land investment opportunities that may help you earn rental income without the hassle of learning a new trade.

Real estate investment crowdfunding is when a company buys real estate and then sells shares of the company to individual investors.

This article will cover some of the nuances of crowdfunding so that new investors know what to expect from the company offering the investment opportunity and how to begin the process.

Contents

• How Does Real Estate Crowdfunding Work?
• Pros and Cons of Real Estate Crowdfunding
• Understanding Regulations on Real Estate Crowdfunding
• What Is Rule 506(b)?
• What Is Rule 506(c)?
• What Is Regulation CF?
• What is Regulation A+?
• Final Thoughts

How Does Real Estate Crowdfunding Work?

So what type of company offers crowdfunding opportunities, and how does it work?

A technical definition of crowdfunding is as follows:

• Real estate investment crowdfunding is when a company, known as the issuer, purchases real estate and then sells securities, or shares, to multiple investors, (i.e., the crowd). These securities grant the investor an indirect piece of ownership over the farm or land.

Generally, land investment platforms operate almost exclusively online. This allows investors to invest with just a click of the button, which many find more convenient than trying to purchase a piece of property to manage and hold for a lengthy period of time.

Investors that use crowdfunding options can potentially benefit from passive rental income and high payouts after the land has been sold without the time and effort of managing the property.

Investors can find companies that offer real estate crowdfunding through a simple internet search. While you will still want to do your due diligence to make sure that the company you plan to invest through is right for you, the issuer is there to do most of the hands-on work for you.

Their role is to manage the rental agreements, collect rent and determine how long the property should be held before selling it, while abiding by SEC rules and regulations.

Pros and Cons of Real Estate Crowdfunding

Consider these potential pros of real estate investment crowdfunding:

• Opportunity to own shares in a company that owns a property without knowing how to manage it.
• Diversification of your portfolio to include real estate with potential for high reward.
• Ability to test the market without funding an entire property alone.

Consider these potential cons of real estate investment crowdfunding:

• It may be difficult to understand the different offering exemptions and what type of investment you’re qualified for.
• It may be difficult to know what type of investment is the best choice for you.
• Returns on your investment generally have longer wait periods before they materialize.

Understanding Regulations on Real Estate Crowdfunding

Real estate crowdfunding has many exemptions dictated by U.S. securities laws issued by the U.S. Securities and Exchange Commission (SEC) that control the type of investor allowed to invest and how the issuer should manage each unique crowdfunding scenario.

These exemptions are simply a way for smaller, private companies to participate in crowdfunding without the high capital and extensive wait time required to take the company public. Another way to think about it–these are exemptions from registration requirements through the SEC. You can think of the exemption requirements as a type of checks and balances for the company offering the investment opportunity.

When investing in real estate crowdfunding opportunities, you will often hear the terms like, “Rule 506(b) or 506(c)," “Regulations A+,” and “Regulation Crowdfunding or CF.”

Each of these rules and regulations refers to a specific exemption in U.S. securities law that would allow a company to sell securities to multiple investors without being required to register those securities.

While these regulations are in place for the issuer to heed, it is important for the investor to understand how each exemption functions so that they can make a more informed decision on their investment.

What Is Rule 506(b)?

Companies choosing to offer crowdfunding under Regulation 506(b) are likely doing so because they are able to sell an unlimited amount of shares, and they aren’t entirely limited to accredited investors.

Essentially, this means that they may be able to offer shares at lower prices because they have access to a greater number of potential investors.

However, the catch here is that an issuer relying on Rule 506(b) is not allowed to generally solicit or market this opportunity. Instead, the company offering investment opportunities under 506(b) to non-accredited investors must already have had a previous substantive relationship with such investors.

Review these bullet points to understand the technicalities of investing under regulation 506(b):

• Companies relying on the Rule 506 exemptions can raise an unlimited amount of money. Rule 506(b) allows the issuer to sell securities (shares) to some accredited and some non-accredited investors.
• Open to unlimited number of accredited investors and up to 35 non-accredited investors
• Unable to widely market securities
• Mandatory investment holding period prior to resale availability
• Must provide financial statements on the offering with no false or misleading statements and more extensive disclosure documents for non-accredited investors.
• Issuers must verify accredited investor status

What Is Rule 506(c)?

On the contrary, Rule 506(c) does allow an issuer to advertise the opportunity to the general public. The catch to Rule 506(c) is that the investors must all be accredited.

Consider these bullet points to further explore 506(c) and what it requires of the issuer:

• Rule 506(c) provides that an issuer may broadly solicit and generally advertise to potential investors and may sell securities to an unlimited number of investors, so long as they are accredited.
• Only open to accredited investors
• Ability to market securities
• Mandatory investment holding period prior to resale availability
• Issuers must verify accreditation with financial documentation

What Is Regulation CF?

Unlike Rule 506(b) and (c), Regulation CF is more focused on how much money can be raised in certain time periods.

While this opportunity is open to accredited and non-accredited investors and is allowed a limited amount of advertising, it caps the issuer at $5,000,000 raised per 12-month period.

• Regulation CF allows eligible issuers to raise up to $1,070,000 in a 12-month period via an intermediary (either a broker-dealer or a funding portal registered with the SEC and the Financial Industry Regulatory Authority (FINRA)).
• Individual investors do not have to be accredited, but are subject to limits on the amounts they may invest in all Regulation CF offerings over a 12-month period.
• Open to accredited and non-accredited investors (up to certain limits)
• Mandatory investment holding period prior to resale availability
• Limited marketing capabilities
• Specific investment limits based on income or net worth
• A single investor may only invest up to $107,000 in any single year.

What is Regulation A+?

Regulation A+ is another exemption similar to the CF exemption. This exemption has multiple tiers and allows the issuer to raise more money in a 12-month period than the Regulation CF exemption, however, it also requires that the issuer file continual reports and provide extensive financial information.

An issuer in a Reg A+ offering is allowed to advertise the offering freely, and an investor does not have to be accredited to invest in a Reg A+ offering.

There are two "tiers" within Regulation A+. As an investor, it’s important to know which tier the offering you are considering investing in is offered under because the disclosure requirements are different for each tier.

• Tier 1 of Reg A allows a company to raise up to $20mm in one 12-month period.
• Tier 2 would allow an issuer to raise up to $75mm in one 12-month period.

Final Thoughts

Exemptions and regulations seem scary at first glance, but they are really only in place to protect the investor (you!). Creating a checks and balances system like the rules and regulations on exemptions does a few things:

• Keeps companies from misleading investors with aggressive marketing campaigns.
• Protects the livelihoods of investors by mandating accreditation status for certain, potentially more risky investments.

Being more knowledgeable about each type of crowdfunding exemption should help you make better decisions about how to invest and what you can expect from the issuer during and after the offering.

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Disclaimer: This blog post is intended for educational and informational purposes only. It is not intended and should not be construed as legal advice and does not create an attorney-client relationship. Readers should contact their own lawyer regarding the applicability of the information discussed in this blog to their particular situation and facts