Alternative Financing: Innovations in Real Estate
by Chris White, Veritas Investments
On January 22, 2015 ULI held an event in Oakland focused on alternative financing methods for real estate projects. The panel of industry experts featured two individuals from the real estate crowdfunding space and two who are actively raising money for real estate projects using the federal EB-5 Visa program.
Crowdfunding disrupts the traditional real estate finance model by using the internet to put real estate debt and equity investment opportunities in front of potential investors. There are approximately 75 crowdfunding websites and last year more than $150 million was raised. The investments on most of the websites are only available to accredited investors, defined as people who meet certain income or net-worth thresholds. Currently there are more than nine million accredited investors in the United States.
Real estate crowdfunding is relatively new, but is catching on quickly, driven by the popularity of crowdfunding companies in other verticals such as SoFi for student loan and Lending Club for consumer credit. Early on, the investor pool consisted primarily of experienced real estate investors. Today, the investor profile has evolved and includes many types, including tech professionals.
Nav Athwal, founder of one of San Francisco’s most exciting crowdfunding platforms, RealtyShares, has funded 85 real estate deals since the company began in late 2013. Nav noted that two years ago when he told people about crowdfunding he would get blank stares.
Nav’s curation team receives leads on over 700 new projects per month and only lists 10 to 15. The average time to fund a RealtyShares deal is between four days and two weeks, with a minimum investment of $5,000. One of their quickest deals was for a project in Cincinnati. RealtyShares raised $1 million in equity in only 24 hours for the project. RealtyShares doesn’t currently offer investments in ground-up construction, but notes that this may change in the future as they evolve with the market.
Fundrise was founded in 2010 in Washington, DC by the founders of The Mills Corporation, a shopping center developer. The crowdfunding platform has raised $41 million. Tom Lockard joined in 2014 as the company raised venture money to expand. Fundrise is interested in riskier investments than RealtyShares, including mezzanine debt or equity for urban infill ground-up construction and re-positioning.
Crowdfunding is increasing efficiencies in the marketplace and has just barely scratched the surface of what is possible. There are big changes in the works as the industry evolves, not least of which is the evolution of product types and exposure to institutional investors. Crowdfunding could be used to fund new real estate product types including new restaurant and bar business concepts.
While crowdfunding is just scratching the surface of possibilities, EB-5 has been available for 25 years. Established in 1990 as part of a set of immigration programs, EB-5 works by matching foreign investors who want to come to the United States with projects that need financing and can create jobs. The programs works like this: If an investor gives a loan of $500,000 to $1 million to a project that results in the creation of 10 permanent jobs, the investor and their family receive a Visa to immigrate to the United States. The amount of the loan required depends on the level of unemployment in the project area. Construction jobs count towards the job creation threshold if they last for at least 24 months.
After the capital markets for development financing dried up during the financial crisis, EB-5 became increasingly more popular. Unless Congress lifts the cap on investors from its current limit of 10,000, this program will reach its limit. The 10,000 investor cap was reached for the first time in 2014, creating a backlog and processing delays. Simon Jung of the Synergy California Green Hospitality Regional Center pointed out that the timing of the disbursement of funds for construction will start to become much more unpredictable and suggests that the best use of EB-5 financing could be take-out financing for a construction loan after the project is complete. Simon also recommends projects use the maximum investment horizon of seven years instead of the traditional five-year investment to provide a contingency for the increased processing time.
Eren Cicekdagi of the Golden Gate Global EB-5 Investment Fund is raising money through the EB-5 program for the development of Lennar Urban’s Hunters Point Shipyard project in San Francisco. Several rounds of EB-5 capital have been raised for the project and construction is underway while additional EB-5 raises are in progress.
EB-5 investors are not seeking a large return on their investment; returns to the EB-5 investor range from 0.25 to 1 percent. Instead, investors are interested in the certainty that the jobs will be created within the relevant time window for them to receive their permanent green card. As a result, investors evaluate a project and sponsor’s track record as opposed to investment rates of return. Investors are overwhelmingly high-net-worth individuals from China but some come from South Korea, Taiwan, Venezuela, Iran and other countries.
The investment is usually structured as a mezzanine loan with a 40 to 50 percent loan to cost. There is no minimum or maximum amount, but to be cost-effective the raise should be at least $20 to $30 million. Loans are usually interest-only and the total interest rate paid by the borrower ranges from 4 to 6 percent.
When EB-5 financing is done right, it can create jobs for the economy, provide a project with cost-effective financing, and an investor can get a green card to immigrate to the United States. The program is small in the overall economy and capital markets and receives bi-partisan support. However, the program has to be renewed every three years by Congress, with an upcoming renewal vote in December 2015. Erin joked that EB-5 is becoming so mainstream that they might not be invited soon to the alternative financing event, but for that to happen would require Congress to take steps to vastly increase the size of the program.
Chris White is an active member of the ULI San Francisco Young Leaders Group and Investment Manager for Veritas Investments, focusing on acquisitions of mixed-use properties in San Francisco and the Bay Area.