Real estate is the world’s largest investment asset, and millions of real estate investors worldwide exist. However, the involvement of blockchain technology in real estate has triggered the overhaul of the domain.
It facilitates the ownership of digital real estate investors. It opens the space for all the people who couldn’t invest due to insufficient funds and issues like transparency and trust. Real estate has always been illiquid, with high capital commitments and long transactions.
But the occurrence of the tokenization has however altered the case. Blockchain technology is tokenization that provides high transparency to investors and builds their trust. Moreover, it divides the property into smaller units, making it relatively affordable for small-scale investors to invest without emptying their pockets.
However, if you want to learn about tokenization, how it works, its benefits, and its limitations, here is a total outlay, and let’s dive into this guide.
What is the tokenization of real estate?
Real estate tokenization refers to the process in which the assets get fragmented into digital tokens representing the properties and all their obligations and rights. However, it uses smart contracts to define contractual specifications. The algorithm encoded into the digital contracts activates every event stated in the code. Therefore, it is only possible when the contract condition is satisfied.
How will real estate tokenization work?
The process of real estate tokenization is quite similar to crowdfunding. In tokenization, the assets break into small fractions with the help of smart contracts, an automated piece of code that resides on the blockchain. It means anyone who is going to buy a token can own a part of real estate.
These are entitled to the undergoing asset and are entirely associated with the profit and losses. However, to understand in detail, here is an example for you. Imagine someone owns a property of $100,000 and wants some cash immediately. They approach the investors, but no one has the required amount.
The owner is unwilling to relinquish their real estate at a lower price. That is where tokenization will play its role. It divides the assets into small parts and makes them fragment. Then, the worth of your property converts into multiple units of $1000 each. In this way, properties can be efficiently invested in a short period and offer complete transparency.
Tokenization of real estate is relatively easy, whether residential, commercial or trophy. Commercial properties include shopping complexes and malls, cutting them down into small fractional slices and making investments quite affordable.
Tokenization of the apartments in the multi-story towers is easy, which results in quick purchases and sales. Someone can liquidate the trophy assets by tokenizing and raising project funding.
What are the perks of real estate tokenization?
The global pandemic has affected the economy to a high level. As a result, retail and intuitional investors’ main goal is protection against inflammation. However, a foolproof way to retain in the present economy is by investing in assets, and the most lucrative option is real estate.
This tokenization is an advancement that tackles most of the problems encountered. It is the most feasible option for investors. However, several benefits are associated with the tokenization of real estate. Have a look.
High transparent and efficient transactions
The decentralization of blockchain networks makes transactions highly transparent and immutable, making them ideal for projects with a multitude of stakeholders and complex processes, such as real estate.
The automation of intelligent contracts eliminates the role of humans in performing any transactions. That means there are zero chances of errors and unfair deals. The blockchain system doesn’t require paperwork or waiting time to complete the transaction.
As a result of which, transactions have become relatively quick and prompt. Moreover, unlike conventional banking, blockchain in real estate doesn’t come with specific hours for the transaction, and you can easily carry it out anytime. The system works round the clock and offers complete transparency.
In a traditional system, if you want to sell a piece of real estate, it will come with a headache. Before the evolution of digital real estate ownership, the liquidity issue in traditional real estate plagues and causes heartburn to every investor.
Many investors in the row weren’t ready to dabble in the affairs of real estate caused because of the problem related to the lack of liquidity. However, to enhance the value of real estate assets, it is crucial to overcome its lack of liquidity, which is where tokenization plays its role.
When a real estate token gets fractionated during tokenization, the liquidity of assets improves. In this way, instead of selling the whole property in one go, the owners of the tokenized real estate can sell their tokens quickly, which will ultimately lead to a swift change of ownership.
Provides opportunities for the small-scale investors
Real estate is an investment option for everyone. But with tokenization, investment in real estate has become more feasible for small-scale investors. This exorbitant cost of the real estate assets gives dealers a chance to be part of the investment without making a deep hole in their pocket.
Real estate tokenization has changed the ballgame, making real estate investment accessible to retail and small-scale investors. Through tokenization, the more significant assets can turn into smaller fractions, making them quite affordable and accessible for people interested in investing.
Access to a free-flowing market
The central financial system is often over-regulated and biased, and as a result, this makes it detrimental to the free flow of the market. But with the introduction of blockchain-based tokenization, the real estate sectors are now a part of a decentralized financial system, irrespective of biases.
However, there is a small part of controlling power lines with every stakeholder collectively making a decision. It eliminates the unreasonable hindrances that ultimately lead to a streamlined market and offers equal chances for growth to all stakeholders.
Decrease in the risk of counterparty
Usually, a more extended transaction is quite challenging to trace. In the pre-tokenized era of real estate, this was the biggest challenge faced by investors. It also involves the presence of a third party which makes things murky, and there is no transparency.
Smart contracts, an integral part of a blockchain network, have improved things per regulations. There is less human interaction, so it keeps the chain of transactions relatively short and even eliminates the risks associated with weak links.
As a result, the risk involved due to counterpart gets dramatically reduced if not eliminated.
What are the limitations of real estate tokenization?
Like any other project, tokenized real estate assets also encounter specific problems. However, let’s glimpse at some of the limitations of tokenized real estate.
Security on smart contract loopholes
No doubt, the blockchain network is relatively safe and secure. But in terms of smart contracts, some loopholes need to be plugged in. The hackers keep their eyes on the codes of intelligent contracts and wait for the opportunity to steal the money.
Due to this, until the smart contract has been entirely diligently audited, the investor’s money is not safe. Either the hacker or the glitch in the system can quickly rob the assets of a real estate investor. And the worst part is that if an investor’s assets are lost, there are no chances of recovery.
Complex license requirements
For the tokenization of the real estate assets, it needs to have a license platform through which the operations and management of the security tokens offering can get examined and regulated. Therefore, getting the license is pretty complex. Before the licensing stage, the investors must undergo multiple phases of errors, trials, and recurrent tests to successfully obtain the permit.
The real estate employees and people currently working in the regulatory authorities don’t know how blockchain technology works and how it helps eliminate the issues encountered by the sector.
This awareness has ultimately resulted in a poor regulatory environment, creating many hurdles for the stakeholders. Moreover, the regulatory uncertainty has made the investor skeptical and lose their trust, resulting in the market’s poor growth.
The tax regulations of the cryptocurrency are still undefined in a high number of tax regimes, a result of which is creating problems for investors and stakeholders. No doubt there are a lot of advantages of tokenization globally, but it is not following a sound taxation system.
Therefore, the lack of this unified tax system is creating doubts in the minds of everybody in this scenario.
What are the challenges faced by traditional real estate, and learn how tokenization mitigates them?
Real estate tokenization has mitigated the issues faced by traditional real estate investors in a significant way. However, some of these problems are.
Higher capital requirement
In traditional real estate, quality properties cost millions of dollars. As a result, the investor needs to make a minimum investment of $50k to $100k, even in the private placement. But tokenized real estate solves this issue by offering minimum investments from tens, hundreds, and dollars.
Requirement of the sponsors
Managing properties in traditional real estate require an expert, even when engaging with third-party management. Conversely, in tokenization, the sponsors already provide the necessary expertise. It works with the property manager, ensuring the properties are well-maintained and operated.
A higher value of transactional fee and time
In traditional real estate, due to the diligence, the pre-investments might take months and even cost you thousands of dollars. Usually, the transactional cost is 5 to 10% of the brought price. On the other hand, in tokenized real estate, the transaction cost plays an important role, making it a minimum of 1 to 3%. Moreover, the transaction time is a few minutes rather than months.
Low market visibility
The real estate industry is usually fragmented, so the visibility of investment in the market is less because of geography and personal connection. Conversely, in tokenization platforms, the visibility of real estate is quite optimal, and all the users can easily browse the property types and the geography.
The traditional real estate value is generally a bit expensive as a result of which, it doesn’t sell quickly. The investors already have 5 to 10% of their capital, which can result in a penalty on the real estate value and affect its market price. But with tokenized real estate, the investors will be proposed with a more excellent market value without any sacrifice on the investment. This increased liquidity can boost the tokenized real estate sale price to 10 to 30%.
Insecure proof of ownership
In traditional real estate, the ownership is only on paper certificates or spreadsheets. On the other hand, in tokenized real estate, the right is anonymized and recorded in the public blockchain. In this way, you can easily show your ownership anytime.
Low property specificity
Traditional real estate and other fund structures favor the fund investment and do not support investment in individual properties. But tokenized real estate is specific to particular properties, and the investors have complete control of their properties and locations.
In traditional real estate, the manager needs to follow many rules on the investment, while in private placements, the sponsors might even face restrictions on ownership and advertising. But smart contracts can further assist the sponsor with legal compliance in tokenized real estate.
Should an investor invest in tokenized real estate?
Investing in tokenized real estate can help you diversify your portfolio. If an investor is planning to add more digital assets to their portfolio, then tokenized real estate will make some sense. In this way, the investor will get more exposure to real estate, and you can opt for tokens that are not cryptocurrencies and NFTs.
No doubt, there is some risk involved as no one can guarantee that the projects you are investing in are through tokenization, which will ultimately increase the risk of loss if an investor isn’t careful.
However, to avoid that situation, it is better to understand how tokenized real estate fits into the investment strategy. Do the research well and ensure you make the right move before spending thousands of dollars on real estate tokens.
What is the future of real estate tokenization?
Tokenization of any asset is quite convenient, including art pieces, cars, and boats. However, tokenized real estate’s future will skyrocket and take shape. There are currently just a few tokenized properties, and some opportunities exist for trading secondary real estate tokens.
Several advantages are associated with real estate tokenization, making it quite known. However, with the development of real estate tokenization, investors’ demand for the new offering will increase by observing the expectation of value/liquidity.
Real estate investors are more likely to opt for tokenized assets as these can help diversify their portfolios and help in spreading their investment. Investors can easily take advantage of convenient token transactions that can help them rebalance their portfolios.
With the addition of blockchain technology in real estate operators, the investors get additional transparency, increased access to the property, and the operator’s rating.
Moreover, with the integration with the metaverse, investors can now take a virtual tour of the properties anytime. As a result, today, the market of tokenized real estate is becoming more efficient. Moreover, the community of tokenized real estate is becoming stronger.
Learn more about Risk and Return of NFTs
Real estate is always a hyped topic and a hot deal to make, even in the past when it was not as accessible as it is today. But it was pretty tricky for small-scale investors to invest in traditional real estate due to its high value.
But with real estate tokenization, it has become relatively easy for small-scale investors to access properties. People who felt disheartened by the cost of real estate are now making investments seamlessly, and this is all because of the affordable prices.
Moreover, investors can expect tokenization to grow as hurdles improve, and cryptocurrency becomes mainstream. Whether the asset is commercial or residential, it can be easily tokenized and make the life of stakeholders relatively easy.