Don't Overlook Real Estate Debt Investments - 3 Options For Steady, Predictable Income

Investing in real estate takes many forms, with crowdfunding being one of the more popular options. However, many crowdfunding platforms focus on equity — investing in property appreciation/rental income — instead of debt like a mortgage.

Many real estate investors overlook investing in real estate debt, but there are a few advantages like shorter holding periods and less risk. You can also use the following crowdfunding platforms to easily and securely invest in real estate debt.

Why Invest In Debt?

Equity investing has several advantages, including uncapped returns. By investing in equity, you essentially own part of the property in proportion to your investment. The greater your investment, the greater percentage that you own.

This is the greatest advantage to equity investing, but this also poses a major drawback: unlimited risk. After all, you can possibly lose your entire investment if the project goes belly up.

With real estate debt investing, you have a stake in the loan between the property owner/sponsor and the buyer.

Some Advantages Of Debt Include:

Being Secured

The loan is secured by the property, which provides security in case of default. Investors can recover their initial investments during the foreclosure process.

Shorter Holding Periods

It’s not uncommon for many real estate investments, especially equity based, to require holding periods of five or more years. With debt, the holding periods can range from six to 24 months. This can be more enticing for investors who aren’t comfortable with long holding periods.

Fixed Rates Of Return

With debt investments, the rate of return is based on the interest rate of the loan and the amount invested. This can provide more predictable income than equity options, which can drastically fluctuate. Fixed rates can offer security, but they represents a tradeoff between security and uncapped returns. Equity investments can have higher returns, with greater risk.

PeerStreet

PeerStreet is available to accredited investors and lets them invest in loans on single-family and residential properties. It’s similar to other peer-to-peer (P2P) platforms like Prosper or LendingClub because investors can choose the loans they want to invest in. Some loan criteria include loan to value (LTV) percentages, terms, minimum yields, location and property type.

PeerStreet also lets investors set up automated investing with its state-of-the-art technology. 

You can set your requirements that fulfill specific criteria such as location, minimum yields and terms so you can be automatically invested when new suitable options hit the market. However, PeerStreet will always give you 24 hours to review the new investments before adding them to your portfolio.

It also has a relatively low minimum of $1,000, and you can invest in these loans with a taxable account or a self-directed individual retirement account (IRA). By using a self-directed IRA, you can earn tax-deferred growth and potentially deduct your contribution based on your tax bracket and income. You can also choose to have a Roth self-directed IRA, letting you potentially earn tax-free growth.

PeerStreet yields can range from 6% to 10% based on the loan’s risk and potential returns. The average holding periods are short and vary from six to 24 months. PeerStreet also has somewhat high fees that fluctuate between 0.25% to 1% of the loan amount.

EquityMultiple

EquityMultiple lets investors select from equity, preferred equity and debt investments in commercial real estate. Options include shopping centers, campgrounds, industrial warehouses and mixed-use developoments. Minimum investments vary from $5,000 to more than $20,000 per project, and this site is meant for accredited investors only.

Fees also vary per project. Another factor to consider is that debt investments usually pass on origination fees to investors. This origination fee can vary from 0.5% to 1% of the loan and is meant to cover the lender’s cost of processing, underwriting and executing the loan. Other types of investments on the platform have fees that generally fluctuate at around 1% of the total investment amount.

The holding periods vary per investment, with equity investments having longer terms of three to seven years compared to debt of six to 24 months. Preferred equity and debt usually have lower targeted returns ranging from 7% to 12%, while some equity options have projected returns as high as 22%.

Groundfloor

Groundfloor stands out from the other two crowdfunding companies on this list because it allows nonaccredited investors to invest in its loans. It also has the lowest minimum on this list, which is a negligible $10.

Many of the borrowers are developers and builders who have difficulty accessing traditional capital. Others want shorter-term loans than what a bank might offer. Many of these shorter loans are for fix-and-flip projects and renovate-to-rent projects.

It’s similar to Prosper and PeerStreet because it categorizes loans based on risk and reward. For example, A-C ratings are more conservative but offer lower potential returns (5% to 8%). On the other hand, D-G ratings are riskier but have the potential to deliver higher returns (10% to 15%).

The main factors that the Groundfloor algorithm uses to assign ratings are the valuation, strength of a particular project and the borrower’s risk profile.

One of Groundfloor’s biggest advantages is that it has zero fees for investors. This is rare for investing platforms, seeing that competitors charge an average of 1% for most investments. Investors don’t pay fees, with borrowers paying an average rate of 5.5%.

Borrowers can pay other fees like points and closing costs. These amounts and other fees vary based on the borrower’s profile and credit score.

Bottom Line

Real estate crowdfunding has leveled the playing field, with some platforms letting investors get exposure to real estate debt investments for as low as $10. Many platforms have advanced technology that lets users create accounts in minutes and manage their investments automatically.

Most crowdfunding platforms focus on equity investments, with many investors not considering debt investments. Debt investments have advantages like less risk and steadier income. Luckily, there are options like PeerStreet, EquityMultiple and Groundfloor that can help you invest in this sector.

Image by WHYFRAME on Shutterstock