WorldExecutivesDigest | Fractional Real Estate Investment: All You Need to Know | A lot of people assume that real estate investing is only a viable option for those rich enough to afford to purchase investment properties by themselves. Thankfully, that’s not the case. A process known as fractional real estate investment allows multiple people to purchase shares in an expensive real estate asset, lowering the bar for entry into this potentially lucrative market.
What Is Fractional Real Estate Investing?
Fractional real estate investing involves purchasing a percentage share in a property instead of buying it outright. It allows unrelated investors or entities to share ownership of real properties. The term can be applied to both rental properties and fractional ownership models of tenancies-in-common. The terms for every fractional ownership model are different, so investors who are interested in adopting this strategy should find a corpus christi real estate lawyer who can review the contract before signing on the dotted line.
The Benefits of Fractional Ownership
Fractional real estate investing allows multiple smaller investors to have a stake in a property that would be too expensive for them to take on alone. Since the costs associated with this form of real estate investing are lower, many investors who adopt this strategy purchase pieces of multiple real estate assets in order to diversify their portfolios.
Luxury properties are usually out of reach for all but high-net-worth investors. With fractional ownership, the high bar for entry into the market is removed. More people can take advantage of the impressive returns offered by luxury rental properties to create stronger portfolios and generate extra profits.
Fractional investments are also considered more liquid than typical real estate purchases. Under most fractional ownership agreements, individual investors have the option to sell their shares whenever they want. Keep in mind that every ownership agreement is a little different, so it’s important to review the terms carefully.
The Drawbacks of Fractional Real Estate Investing
Fractional ownerships are complex and terms must be agreed upon between all investors. Some investors reduce complications by working with a third-party investment company. Others band together with their peers and hire lawyers to draft agreements with terms that are amenable to everyone. The important point here is that everyone needs to be on the same page.
It can also be difficult for groups of individual investors to obtain financing for fractional real estate investments. It’s not impossible. Some financial institutions are willing to accommodate these kinds of agreements. Just make sure to start the process of finding a lender early.
Fractional Ownership vs. Timeshare Investing
First, timeshares aren’t really investments. Timeshare investors purchase the right to use a property. They don’t purchase a stake in the property, itself. That distinction may seem insignificant to someone who just wants to have access to the perfect vacation home for a few weeks a year, but it’s a crucial difference for serious investors. Timeshare stakes do not generate income, nor do they appreciate in value.
With tenancy-in-common fractional investing, each investor owns an actual stake in the property. Duties held in common such as maintenance and renovations can be split among the investors, assigned to one owner, or entrusted to a property management company. Should the property generate income via rent or sale, each of the investors who own a stake in it will receive a portion of the money. This type of problem happened with the Bluegreen Timeshares with many seeking bluegreen timeshare cancellation that might have affected such business.
Fractional Ownership vs. REIT Investment
It’s equally common for investors to confuse fractional ownership with investment in an equity real estate investment trust (REIT). The primary difference between these two forms of real estate investment is that those who opt to invest in a REIT are actually investing in multiple income-producing properties classified as one asset. Oftentimes, the investment properties are all the same property types, such as data centers or storage facilities.
REIT equity investors share rental income, but they don’t have any control over what properties the REIT purchases, what improvements are made, or when the properties are sold. Investors who opt for fractional ownership have far more control over what happens to their shares and the totality of their real estate investments.
Fractional Ownership of Commercial Properties
While it’s certainly not unheard of for groups of investors to purchase residential properties for shared use, it’s more common to see fractional ownership of commercial properties. Common examples include:
- Luxury hotels
- Apartment complexes
- Office buildings
Fractional ownership of commercial properties allows individual investors to generate income from often expensive rental properties. Each month, the tenants pay rent to the investment group. The landlords still have the same obligations to tenants, which are defined in the lease agreement. Once those obligations are met, the rest of the income is divided among the owners.
Who Should Investigate Fractional Real Estate Investing?
The majority of investors who adopt this strategy have a decent amount of working capital but don’t want to use all of it to purchase one property. Instead, they use it to purchase shares in multiple properties to further diversify their portfolios. This form of direct investing isn’t ideal for novice investors or those who want to take a strictly hands-off approach to property management.
The Importance of Hiring a Real Estate Lawyer
There are many ways to draft an agreement for fractional real estate ownership, but not all of them offer equal amounts of protection for investors. Some investment groups opt to form LLPs or LLCs, while others hold tenancy-in-common. The only way for investors to ensure that their financial interests will be protected is to hire a lawyer to explain appropriate options and draft an agreement that works for them.