Loans, crowdfunding, and crypto

In the early 1990s, I was just starting my career as a CPM. The real estate industry was still recovering from the economic recession that had kicked off the decade, and I saw the impact of this early in my career. As a manager, I had a portfolio that consistently churned with properties in receivership and foreclosure. Though the type of asset varied from residential to commercial and industrial, what they all had in common was that they were distressed properties—physically, financially, or both.

The banks that owned all that distressed real estate hired my company to advise and potentially revitalize those properties before they sold them. Based on our analysis, the bank made decisions on what its financial goals were for each of those assets. Sometimes the goal was to leave the property as-is. Sometimes the land was worth more if the existing buildings were removed. My favorite option, though, was when we were able to rehab a property with building and leasing upgrades. In all these cases, we’d work with the banks throughout the process to make the investment a success.

During this time, I met a lot of the people who had owned the properties before losing them to the banks. Most of them didn’t seem to care about the buildings or the people living or working in them. I felt good that the changes we made improved the quality of life of the building’s inhabitants. There was one building, however, that was different. What made it different? The owners. They were a retired couple who had invested their life savings into a small multifamily community. They cared deeply about the people living in the building and did their best with limited resources to take care of their residents and their property. Then the economy changed, and they lost everything. I wondered if they could have saved their investment if they had hired a good property manager.

Whether an owner is a large corporation, a single entrepreneur, a real estate investment trust, or a family planning for retirement, never forget that all owners entrust you with the care of their investment. Our management decisions, good and bad, ultimately affect their financial well-being. It’s why professional ethics is at the heart of IREM’s mission and why we should all take time to see ourselves not just as day-to-day operations managers, but also stewards of the investors we serve.

Navigating the markets

For those considering investing or looking to expand their existing real estate portfolios, securing the best financing option is a top priority. Any speculative investment involves some degree of risk, and successful outcomes can often hinge on just how much risk an investor was able to minimize before financially committing. Identifying the optimum source of funds for an investment requires evaluating current economic conditions to find the best fit. But we also have to consider how these decisions might impact the future of the property’s financial resilience when faced with interest rate fluctuations, currency exchange risks, and new regulations.

Of course, a good property manager goes hand-in-hand with the right financing over the investment life cycle in managing that risk for the owner. According to Thomas Elmer, CPM Emeritus, there are several ways real estate managers can impact cap rates, such as “influence [of] buyer perceptions of the asset through curb appeal, optimized operating expenses, and strong tenant/broker relations.” Elmer says managers can increase returns for their owners by maximizing a sustainable net operating income (NOI), reducing perceived financial risk/cap rate, optimizing capital spending, decreasing or deferring tax liability, and optimizing exit (sale) timing. Influence over these areas will vary by company and the specific duties of its property managers. Still, the positive impact professional property management can have on an investment with the best available financing can’t be overstated.

The type of financing in place also impacts the owner’s goals for their investment. “Any financing has the potential of impacting the owner’s goals, which ultimately affects the way it is managed,” says Will Curtis, CPM, CCIM, principal broker, Crossed Sabers Commercial Real Estate. “For example, if the financing requires a lower debt service coverage ratio, then we may see an owner’s goals be more focused on retaining tenants, making required upgrades, or trying to push rent to keep or exceed that debt service coverage ratio.”

Ways to pay

Each market and property type is unique, with commercial, residential, and industrial all presenting different challenges and opportunities. But regardless of the circumstances, proactive managers can look for ways to make a difference in improving the bottom line at their existing properties and help owners identify alternative—and increasingly innovative—options for financing real estate investments.

When rapid market shifts come about, what was once a sound financial decision can suddenly become unsuited for current conditions. Interest rates rise and fall, government lending programs come and go, and strategic investments lose their tax advantage as policies change. This is why all stakeholders must understand the ins and outs of some of the most common forms of financing for real estate investments.

• Conventional financing. Going conventional is a great way to start out, especially if the size and scope of an owner and their goals are relatively small. Most providers of conventional loans, such as retail banks, offer programs for the purchase of multifamily properties. These conventional loans may be a particularly good fit for the beginner property investor. They typically require that the property be no larger than four units—anything containing five or more units would be considered a commercial loan. Specific requirements vary by lender, so shopping for the best option is always advised.
• Government loans. Organizations like Fannie Mae, Freddie Mac, and the Veterans Administration (VA) have loan programs available for qualifying buyers. These are particularly great options when funds needed for making down payments on a property acquisition are scarce. While many government programs may have restrictive eligibility requirements, such as the borrower residing in the acquired property, exploring financing options with these household names can be a great way to start investing.
• Short-term financing. Various forms of short-term financing can help kick off an investment portfolio. These include such familiar options as bridge loans, hard money loans, or even some creative personal financing. Clint Edwards, branch manager with Evergreen Home Loans in Port Orchard, Washington, has seen people begin their investment property portfolios using a home equity line of credit (HELOC). “A HELOC allows someone to initially purchase a property with cash and then seek out more permanent financing after the property is under their ownership.” Edwards recommends building a relationship with a trusted lender who can offer expert advice on navigating short-term financing options and the various program requirements.
• Private equity/crowdfunding. This option leverages the value of an owner’s social networks, raising financing from high-net-worth private investors (or “angel investors”) and pools of private investment capital, or even appealing to less sophisticated retail investors via crowdfunding. Though there are plenty of examples of property investors turning to platforms such as GoFundMe, IndieGoGo, or Kickstarter, don’t anticipate creating an account on one of these websites and instantly raising capital. Unless there is a strong business plan—accompanied by a detailed financial outlook, the expected ROI, and strong ownership commitment—real estate investors face an uphill battle getting the clicks and cash they need.
• Cryptocurrency. Don’t expect to make a quick trip to your local bank or credit union and capitalize on your portfolio of Bitcoin and Ethereum holdings. According to a recent report from Bankrate.com, only about 16% of Americans have invested in digital currencies. This illustrates what an obstacle the high volatility of the asset class has been to reaching mainstream adoption, especially among institutional lenders. A cryptocurrency-backed loan uses the crypto portfolio’s value as collateral, and loans are only made through a crypto-exchange or crypto-lending platform—a system often called “DeFi,” or decentralized financing. This option could be leveraged the same way as a bridge loan or home equity. But interest rates can be high, and the uncertainty around government regulation and the questionable stability of the crypto market may dissuade would-be property investors from utilizing this method.

Curtis says that while alternative financing mechanisms like cryptocurrency have some advantages, they present concerns. “For property managers, the first concern with alternative financing would be the level of due diligence done on the property,” says Curtis. “Cash buyers are notorious for skipping inspection only to find out later that the property has serious structural or environmental concerns, which always become a trouble spot for property managers. I can see [crypto-financing] becoming a similar situation, especially if the profits were made in other crypto investments and then moved to a DeFi lending system.”

Regardless of the type of financing used, any real estate investor ultimately wants to ensure that their property’s outlook aligns with their financial goals before signing their name. Improving our understanding of the financing options available to investors can help us as managers better leverage our valuable hands-on knowledge of the market to meet the long-term goals of our owners.