The process of creating a digital asset that represents a single property is called real estate tokenization. These tokens represent a certain amount of shares for some real estate asset. Similarly, other investors can purchase these tokens. By doing that, they become partial owners of that asset. This further allows them to be involved in cash flows and asset appreciation.
They have the freedom to sell any amount of their shares whenever they want, and they can do this even with some other online markets. In other words, digitization of real estate using tokens on the blockchain is real estate tokenization.
Benefits of Tokenizing Real Estate
The general benefits of real estate tokenization include
Access additional capital
Real estate owners and developers can offer smaller investment denominations by dividing a property through a blockchain-based system, expanding distribution to a broader and more diverse investor group.
Lower illiquidity discounts & liquidity premiums
For highly illiquid assets such as real estate, institutional investors have often had an advantage over individuals due to the steep illiquidity discount associated with the majority of commercial real estate investments.
Enhanced price discovery
Today the real-time pricing information is paper-based, and it stores asymmetrical information by all parties. A digital secondary market for individual real estate properties will enable real-time pricing information.
Improved transparency
The use of a blockchain-based system enables the programming of rights, restrictions, and data associated with the underlying property into the tokenized digital asset. Everything that has happened in the past is public to anyone who might want to look.
Automated Processing
Smart contracts can automate the wills and rights process.
How to digitize real estate
The digitization of real estate in real estate tokenization includes three steps:
- Deal structuring
- Technology selections
- Token distribution
Deal Structuring
In real estate tokenization, the deal structuring consists of a variety of elements, including jurisdiction, asset type, shareholder types, and applicable regulations.
1. Asset
Assets, simply put, are the specific properties.
2. Legal structure
Digitization of real estate requires a legal cover around the individual properties to securitize and create an investment vehicle.
The most common structures we have seen to-date are:
- Single asset Special Purpose Vehicle (SPV) – SPV is a separate legal entity created by an organization. As it is a separate legal entity, if the parent company goes bankrupt, the special purpose vehicle can carry its obligations. Tokens represent shares of the SPV.
- Real estate fund – A real estate fund is a type of mutual fund that primarily focuses on investing in securities offered by public real estate companies. Tokens represent ownership shares or units in the fund.
- Project finance – Tokenization can be used as a new mechanism for raising funds for a project. Depending on deal size, tokens may be made available to retail investors as well as accredited investors.
- Real Estate Investment Trust (REIT) – It allows individuals to invest in large-scale, income-producing real estate. Token holders have the same rights to operating income from the REIT that traditional investors have today. REITs are costly to perform; however, they are advantageous in that they are available for retail investors.
3. Shareholder rights
Based on the legal structure, determine if investors have the right to dividends or governance of the entity or property. You may also choose to offer multiple tokens that represent different investment classes. For example, you can create a token that represents preferred equity in a property with a liquidation preference, and another token that represents common equity.
4. Investor types
The legal structure may dictate to which types of investors the deal will be made available. The target investor group will reside in the jurisdiction.
5. Execution regulation
The location of the property or the SPV, the size of the capital raise, and the type and location of investors will be on the applicable execution regulation. It’s important to note that execution regulation may also determine the tax treatment of the tokens as well as solicitation restrictions.
Technology Selection
Secondly, after the finalization of the legal structure for the property, decide the technology.
The three critical decisions would be:
1. Blockchain token – Determine the blockchain platform to build and which has the rights to store tokens. The platform should also allow the owner to transfer those rights to anyone and transfer the complete ownership to someone else in a legal way.
2. KYC / AML Vendor – To determine a KYC vendor that can integrate with the primary platform and the digitized security infrastructure.
3. Primary / Secondary Marketplace – To determine the success of the capital raise and the ability for investors to access liquidity. By this, we can decide the exchange for trading.
Token Distribution
Thirdly, after the technology decision, the next step is to launch the token and distribute it to investors.
1. Acceptable funds – To determine the options to accept different types of payment methods easily. Stable coins can also be used to purchase real estate.
2. Token launch – A web-app will host the token launch.
3. KYC – In this, the investor will go through the KYC process for verification and linking of their digital wallet.
4. Token Distribution – After the registration of investors, tokens can either be sent directly to investors accounts or list the digitized real estate on a primary issuance platform. After investors make the purchase, they will receive the digitized securities.
Download a free e-book on real estate tokenization by clicking here.
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