Opportunity Zone Pitch Day - March 23rd
1031 Exchanges & A 2023 CRE Market Update, With Edward Fernandez
The 1031 exchange is a powerful tool that helps entrepreneurs, HNW investors, and family offices to protect and grow their wealth over the long term.
Edward Fernandez, president and CEO at 1031 Crowdfunding, joins Andy Hagans to discuss how 1031s can be used to help build legacy wealth (plus provides an update on the 2023 CRE market).
Watch On YouTube
- Background on Edward’s career, and his attitude on how to achieve personal and professional success.
- A commercial real estate market update for 2023 (and how the current landscape compares to the second half of 2022).
- The most powerful trends driving the 1031 market (and why higher interest rates haven’t killed 1031 exchange volume).
- Why the total dollar amount of 1031 exchange activity can remain high, even if the number of transactions is lower.
- How the 1031Crowdfunding platform works, including its offerings for accredited and non-accredited investors.
Today’s Guest: Edward Fernandez, 1031 Crowdfunding
- 1031 Crowdfunding – Official Website
- 1031 Crowdfunding on LinkedIn
- 1031 Crowdfunding on Twitter
- Edward Fernandez on LinkedIn
About The Alternative Investment Podcast
The Alternative Investment Podcast is a leading voice in the alternatives industry, covering private equity, venture capital, and real estate. Host Andy Hagans interviews asset managers, family offices, and industry thought leaders, as they discuss the most effective strategies to grow generational wealth.
Andy: Welcome to “The Alternative Investment Podcast.” I’m Andy Hagans, and today we’re talking about the 1031 exchange, which is a very powerful tool to build generational wealth in real estate. So, I’m very happy that joining me today is Edward Fernandez, who is president and CEO at 1031 Crowdfunding. Ed, welcome to the show.
Edward: Andy, thank you so much for having me. It’s my pleasure.
Andy: And we already kind of went back and forth, Edward or Ed. I’m gonna probably call you both during the interview, but… So, Ed, why don’t we start at the beginning?
Andy: You have this cool 1031-related platform, but I’m always interested in your back story. How did you get into real estate, or finance, or 1031, or any of it? Where did it start?
Edward: Well, so, my first real job is I was a produce manager at a health food store. And one of my buddies from church came to me, he says, “Hey, you know, we got this job opening at this place.” And, you know, it was a place that was selling precious metals, gold, silver, platinum, and palladium. I went in there, took the test, I failed it. But for some reason, the guy called me back and gave me the answers to the test, right? And he says, “Hey, don’t get them all right.” So, he gives me the answer to the test, I get to test, I get hired. And that was my first real sales job dealing with clients. And, you know, I did that for a little while, and then went into the commodities market, got my Series 3, and started trading overseas for investors. But, you know, the volatility in that is crazy, and so a lot of people were losing money. So, I was like, you know, better to go to Vegas. At least you get free drinks, right? And so then I…
Andy: Wait, do they still do that in Vegas? I actually heard that they don’t do that anymore, that they…
Edward: Yeah, no, they do. They actually… I mean, I don’t gamble much, but when I do, I sit down and play some blackjack, a girl comes in and gives me free drinks, so.
Andy: Okay. Okay.
Edward: It still works. And then, you know, because of the volatility, I got hired at a company called Cornerstone Ventures. And that company actually syndicated industrial real estate. So, I was a low man on the totem pole. I was there for 14 years, so I learned, you know, from the phones, to creating structures. And back in 2014, I decided to do my own thing, and that’s how I started 1031 Crowdfunding.
Andy: And I gotta say, you know, well, first of all, couple things. Any time I’m talking with a CEO and they began in sales, I’m like, “Yes.” Because as a private equity guy, as an investor, I’m always like, sales, sales, you know. That is just an awesome skillset. And then another thing that kind of piqued my interest was when you said you worked at this other organization for 14 years and you kind of did every job from the ground up. And that makes me think of a restaurateur or something who started as a busboy or, you know, waited tables or whatever. And that’s such an incredible way to learn how to do something, is that willingness to work your way… So, it sounds like you’ve never had any compunction about working your way up, and starting from the bottom?
Edward: Yeah, no. I think cracking your knuckles on an engine, instead of learning how to fix a car from a book, really, actually, is the difference of education. And so I have no problem starting from the bottom and getting to the top. And that’s how I train up my salespeople, I train up my kids. Obviously, my kids work here, my nephews work here, my niece works here, my wife works here. And so they all got that feel from starting from the bottom, and they have to earn their way to get to the top.
Andy: Your wife works there? Are you guys… And you’re still married?
Edward: She’s my COO. Yeah, 26 years. Yeah, she’s a great manager. She deals with the people in a way… I’m type A, running through walls. And that doesn’t work for HR, you know?
Edward: And so she does a really good job. And ever since she’s come on board, I mean, we have grown by 422% because of her organizational.
Andy: Well, that’s awesome. I love that. Well, I wanna dive in to your company, and this amazing empire that you’ve built. But before we even get there, I want a market update with commercial real estate, because it’s been up and down. Obviously 2021, it just went gangbusters. Even the first half of last year, it was pretty strong. And then it was, like, it just froze. I mean, at least that’s my perception. I’m not actively buying or selling properties, but with talking with a lot of people, it was, like, frozen. And Q4 of last year, it was… I was talking with DJ Van Keuren of the Family Office Real Estate Institute, and I mentioned, it wasn’t that everyone was, like, totally scared, but it was more just, like, this anxiety, like, “Well, let’s see what starts to happen next year.” And now it’s March, and I’m like, “Okay, well, now it’s next year.” What’s this year gonna be like? Is activity picking up at all?
Edward: Yeah, you know, I would say September, October 2022, crickets. Volume completely stopped. And it transitioned. Prior to the Fed’s hiking rates, I think back in March or April, give or take, a lot of the transactions were from investors selling single-family homes. And so the SFR market was so hot. People were creating an exodus out of, what I used the term controlled states into free states. And that really was the driving…
Andy: Well, wait, and are you in a free state or a controlled state?
Edward: Well, I’m in one controlled state and I’m in one free state, so, you know, pick your poison.
Andy: Okay. Wait, what does that mean? You have a home and a vacation home? Or what does that mean?
Edward: No. So, I’ve got an office here in California and I got another office in Texas, so…
Andy: I think I can read between the lines and I know which is which. We’re, I’m in Michigan, so we’re kind of a battleground state. But okay, go on. Go on, though. Okay. So, it was maybe starting to pick up, and September and October, it what, it was just dead?
Edward: Yeah, it really slowed down, and then it started picking back up. And what we started noticing is that the exchange volume changed. It was now more commercial assets being sold, or large, multi-family assets, or warehouse assets. So, the exchange volume, in regards to transactions, slowed down, but the size of the exchanges have increased. And so we would be dealing with, you know, $200,000, $300,000, $500,000, a million. Now we’re dealing with $5 million, $10 million, $15 million exchanges. And so the volume has slowed down, but the rise in the transactions, in regards to value, has just exploded in a big way.
Andy: Well, that’s interesting. So, one question I have about this, with 1031s and higher interest rates, kind of a conceptual question. You know, I love the 1031. It’s obviously an amazing tool in the tool belt of a real estate investor. It allows you to trade in and out of assets without creating taxable events, right? Really, really important. Because otherwise, it’s like, even if I might wanna trade out of one thing into another, if it’s gonna create a tax bill, then I have to be creating more value than the tax bill is gonna generate. But once I remove that tax bill, then it’s a lot more frictionless. You know, there’s still some transaction costs, but the tax bill is a major… But here, in this situation, it’s like I might be trading out of one asset where I have cheap debt into another new asset where I have expensive debt. And isn’t just that debt piece of this enough to make me say, “You know what? The juice isn’t worth the squeeze. I’ll just stay in this asset,” even if I kind of hate this asset or whatever, because it has cheap debt? I mean, isn’t it…? So, I guess I’m kind of amazed that any transactions are happening if they’re folks that are trading out of an asset where they have cheap debt into an asset where they have expensive debt. So, what am I missing?
Edward: Yeah, in theory, I mean, you would think that would be the case, right? But you have to break it down based on profile. Generational. You know, there’s a difference between the millennial and a baby boomer, right? A baby boomer…
Andy: You’re telling me.
Edward: Right. So, a baby boomer, you know, they’ve created their wealth. They want mailbox money, they want to simplify their life, and they definitely don’t wanna pay the tax. And then they get to a point to where maybe their children don’t even wanna take over the empire, compared to someone who, you know, maybe is in their 40s, 45. Based on your summary, that’s the ideology that they would have, right? I’ve got cheap debt, I’ve got trophy debt.
Andy: So, the baby boomer, then, they might be trading out and going into a DST or…?
Edward: Correct. Correct. And the baby boomer, you know, the high-net-worth, qualified purchaser, has the resources to add equity to their position, which automatically lowers their LTV, which then makes sense for them, because they’re earning cash flow on the additional equity, they’re adding and reducing their exposure to the debt.
Andy: Okay. So, what’s grease in the wheels right now? It’s as much… This is really interesting, you know, because I was talking with CJ Follini of Noyack Capital the other day, and this is a topic he brings up over and over and over, with good reason, I think, that we are facing right now the largest wealth transfer, generational wealth transfer, in human history. And so…
Andy: So that macro trend, essentially, it’s almost like interest rates don’t matter? Or they matter a lot.
Edward: It is. And it’s very interesting, right? So, normally, when interest rates go up, right, real estate values go down and cap rates expand. That’s not happening. I think maybe we saw maybe a 50 basis points change. So, regardless of what interest rates are doing, real estate is still staying, I would say commercial real estate is still staying very strong. The housing market in certain geographic locations has changed dramatically. But, yeah, it’s because of that trend, and because of that transfer of wealth that the sales of commercial real estate is just continuing to happen, regardless of where interest rates are today. It’s just a weird real estate market.
Andy: You said it. Thank you for saying that, actually, because I’ve been looking at assets, and some partners and I who are in a private equity fund together, we’re underwriting stuff. And I keep saying to myself, “This just doesn’t make sense. What am I missing?” So, you mentioned cap rates, like a 50-basis-point change or something. That just sounds like they’ve eased up a tiny bit. But, because what I keep saying is, “Look, cap rates have eased up, but not enough to compensate for the higher cost of debt.” That’s just my personal opinion.
Edward: Agreed. I think, we always say, “Let negative leverage, right?” Leverage is hurting cash flow. It’s not making cash flow better, so that’s why you’re seeing deals utilize more equity, and lower their debt position, because the debt is really not helping. And so that’s why we kind of look at this market, and we, as a sponsor or syndicator, right, because we have a platform, and we have other syndicators on there, but we’re also a syndicator. So, we’re a sponsor. And we continue to buy senior housing, assisted living and memory care centers, because our cap rates are easily 7.5% to 9% because of that barrier to entry. So, that market is a very stable market, where if you look at multi-family…
Andy: Wait a minute. You’re telling me you have a product I can invest in at a 9% cap? That’s a…
Edward: So, we buy between 7.5% and a 9%. Now, that’s a cap rate when it comes to value, as far as cash-on-cash return. We still have to use debt, right?
Andy: I see.
Edward: So, our deals are still at 5%, 5.25%, 5.5% cash-on-cash return, which is still higher than multifamily. Multifamily, you’ve got 3.5%, 4% cash flow numbers, right?
Andy: Did you see me jolt when you said cap rate.
Edward: Yeah, no, I see you. So, that’s why we continue to do that. Now, when we buy at a 9% cap our next deal in Florida, when we buying a 9% cap, we can easily pay over a 6% on cash flow, because of that barrier to entry. So, that’s why it’s kind of difficult when you’re looking at multifamily or industrial, with those cap rates really not adjusting much, you’re seeing debt on those terms completely IO, interest-only, maybe a 30-year am, but the term is only 7 years. Because 7-year debt is cheaper than 10-year debt. And so that’s how people are making those numbers work.
Andy: Okay. Okay. Yeah, no, this all makes sense. Well, now this gives me another question, though. These are great answers, but they keep just giving me other questions. So, with 1031 market, I mean, it’s a little different, right? Because it’s this group of investors who already own real estate, and they’re essentially trading real estate for more real estate. Well, my question is more getting at, let’s say I’m a passive LP type, like a high-net-worth investor, qualified purchaser type. And let’s say, in general, I’m under-allocated to real estate, right? Like, I don’t have 20%, 25%, 30% of my portfolio in real estate. Is this a good time to start deploying capital into real estate? Like, not trading real estate for real estate, but taking cash, or taking money out of stocks and bonds into real estate? And if so, where’s the value?
Edward: Well, so, that’s a question that you can answer in a lot of different ways. Number one, we’re seeing volume coming in, not just in the exchange side but on the non-traded REIT and partnership side, because investors are tired of the volatility. This market has been sustained with the federal government buying billions of dollars in bonds, just to keep interest rates low. So, now that the market is, like, normal because now they’re selling off their bonds, the volatility in the equity market is daily, and people are.
Andy: By the way, the market wasn’t normal in either direction, right? It was manipulated…
Andy: It’s just we liked it better when they were manipulating…
Edward: Exactly right. We liked it better when it was manipulated. You know, look at LIBOR. LIBOR doesn’t exist anymore, because it was manipulated, right?
Andy: That’s right.
Edward: So, the market now is actually truly being in a place where volatility is normal, but people have been so used to this bull market, where interest rates have been low for so long, and the market is just doing this, for so many years, they’re now looking for a non-volatile type investment, or their sleep-well-at-night, “SWAN” investment, to reduce the volatility. And so a lot of people think that traded REITs is real estate. It’s not. It’s actually an equity. You’re buying shares in a real estate company that the underlying assets, it’s real estate. And so you’re still subject to Powell getting on TV. When Powell gets on TV, get out of the market before he starts talking, because the market’s gonna change, right?
Edward: And so is your traded REIT. So, we’re seeing a lot of investors now going into the non-traded REIT space or the private REIT space. Where’s the value? The value is gonna come when the feds have pushed too much on interest rates and have to put the brakes on, drop interest rates dramatically. And you know when interest rates go down, real estate values go up, and cap rates will compress. So, you know, that’s where the value’s is gonna come.
Andy: Ed, yeah, I think you’re right. I think you’re right. And you know what? It’s interesting, when you’re talking about the… When you mentioned, you know, being in publicly-traded REITs, and that volatility, and the fact that investors don’t like this volatility. So, we’re having this huge generational wealth transfer, basically to millennials, you know, maybe some Gen X, millennials, and even Gen Z. And millennials and Gen Z, they do not trust the publicly-traded markets, the stocks. You know, for better or worse… And by the way, I own some index funds, ETFs. I own stocks and bonds. But as a generation, a lot of the folks inheriting the wealth, they do not like that volatility. And I think, to some extent, the decision to go into a private REIT or non-traded REIT, it isn’t a necessarily a value choice, because I might look at some publicly-traded REITs and say, “Actually, right now, let’s check the market today. They might actually offer more compelling value today.” But it’s almost more of a lifestyle decision, that I just don’t wanna be invested in these assets that are being, number one, repriced in real time and annoying me, you know, making it hard to sleep at night. And just, like, more of a rollercoaster based on what the Fed says in their press conference. It’s just, it’s annoying. So, it’s almost like it’s a lifestyle choice as much as it is looking for value.
Edward: Agree. You know, a lot of our clients in the profiles anywhere from 60 to 90 years old. And these guys and gals are grinders. These are the people that have worked so hard to build this wealth, that at some point, they say to themselves, “What good is it to continue to grind if I can’t enjoy my life because I’m on the, you know, I’m going downhill now.” Right? I’m over the curve, and life is becoming shorter and things, and values change, right? So, quality becomes more important than quantity. And so, if I’m gonna sit here and look at the stock market every day, and see my statements going up and down, and I don’t know what’s gonna do and who’s… What war is gonna happen? What administration is gonna get in? It’s just brain damage. And they get tired of it, right? And so they just want coupon-clipping, I’ll just protect my principal, give me some stable income with potential of growth, and I’m happy.
Andy: Yeah. Totally agreed. Totally agreed. I think it’s as much, it’s behavioral, lifestyle. Lot of people are just sick of the liquid markets. And not just the market… Because the thing is, a volatile market can create opportunity, but the sense that the market is just so manipulated… And so it’s not even Mr. Market that is volatile. It’s the manipulation underpinning that. It’s just, like, annoying. You’re exactly right. I’m working hard to generate income, I’m saving income, I’m putting it to work, and then now I’m getting punished?
But you said something else interesting. And the value investor in me, you know, my ears kind of perked up with this, just that contrarian bent, where, like I said, if I’m looking at deals right now, if I’m underwriting them, it’s kind of hard to see value, just in static terms, with a lot of asset classes, like with multi-family, SFR. Depending on the MSA, it’s hard for me to say, “Well, this is a good investment, just according to the numbers in front of me.” But now if I assume that interest rates, at some point, have to come down, then that’s going, okay, this is now contrarian, and I love contrarian, where it’s like, this doesn’t really look cheap, but it might look cheap five years from now.
Edward: Yeah, I would agree. I think, you know, I’m on TD Ameritrade from time to time with Nicole, and they’re always asking me about the housing market. And you’re thinking about the millennials and how they can’t afford to buy a home. And the millennials will put, you know, if they’re lucky, they can get 10% down. They can’t even put 3% down, so they’re carrying a 97% of the value in debt, right? And the mortgage rates are through the roof, so they can’t afford to buy a home, so that’s why they’re living with mom and dad. Or, you know, if you look at rents in multi-family are just ridiculously high. Well, okay, how is real estate valued? NOI divided by cap rate gives you a value. If NOI continues to increase because rents are going through the roof, because millennials can’t afford a home, well, then there’s value there, right? Even though cap rates haven’t moved that much, cap rates will move when the feds drop those rates. And it’s coming. It’ll be… 2024, I predict, first quarter, maybe. Let’s see. What are we, in March? So, maybe starting in January, I give… If we were in January of 2023, I would give it 18 months, and feds will actually have to put the brakes on things, and then we’ll see cap rates move again.
Andy: I like it. I like it, Ed, that you’re going on the record, you’re making that specific predict… I love it. I love it. You’re not hedging anything. Well, all this brings me to your platform, to 1031 Crowdfunding. I don’t know all the details. I mean, even hearing the name, the brand name, I’m already kind of hooked. I’m just drawn in because I think, you know, your, kind of, your larger point about new money, new investors entering. Because investors are, in many cases, tired of the volatility in the markets. So, 1031 Crowdfunding, right in the name, I’m thinking this platform is improving accessibility into CRE investing. Is that kind of the macro thesis, or why you.
Edward: That’s absolutely correct. Yeah. So, think of 1031 Crowdfunding, the platform, as a mall, right? And a mall leases out a lot of space, right? You’ve got Nordstrom’s and Tillys, and the bands, and whoever walks into the mall, it’s a different customer, focusing on going into a certain store. And so, 1031 Crowdfunding, the platform is the mall. When you walk into the mall, what do you want? Okay, well, if you want multi-family, we have it. If you want industrial, or single-tenant triple net, or healthcare, or self-storage, we have it. And so it gives the investor, number one, who’s looking to get rid of the tenants, the toilets, and the trash, they don’t wanna do it anymore, or they’ve running out of that 45-day ID period, right? And there’s a panic because the tax bill is just, a third of their net worth is gone, and they’re not gonna give it to this current administration, or any administration, for that point.
We have assets, i.e., Delaware Statutory Trusts or DSTs on our platform, where we can satisfy their exchange as quickly as five days. And arguably, we have the largest inventory of DSTs in the country. Right now, we have about 70, seven zero, that currently exist. Now, that’s for the accredited investor. For the non-accredited investor that wants to actually get involved in real estate, and really doesn’t know what they’re doing, we also have REITs. We have partnerships, we have Opportunity Zone funds, we have notes, where a non-accredited investor, for as little as $500, can get into a private REIT, and start learning how to invest. And so, 1031 Crowdfunding, right now, today, is a way to defer your taxes through 1031 exchanges. It’s also a way to invest in real estate to move yourself from the volatility of the current environment. And for those investors that actually have never invested in real estate, this is a way to get involved as well.
Andy: Understood. And so it’s interesting because I’m hearing multiple sectors, and then also multiple wrappers. I mean, I talk all… I probably bore my listeners sometimes, talking about wrappers, you know, but it’s really important, right? Because I’m all about maximizing triple net returns, you know, returns after inflation, after fees, after tax. To me, that’s all she wrote. That’s all there is. There’s no other kind of return, besides triple net. So, if you’re gonna be a real estate investor, you better learn about 1031s, you better learn about DSTs, you better learn about Opportunity Zone funds. Otherwise, you’re leaving money on the table, right? Like, do you wanna pay more taxes? You know, who else wants to pay more taxes? I don’t. So, it sounds to me…this is interesting. Well, first I wanna start with the DSTs. Because, you know, like, last year, thinking back 12 months ago, ancient history for me, but trying to remember 12 months ago, DSTs were opening and closing in 7 days, 14 days, or whatever.
Edward: It was insane. It was insane.
Andy: So, is your platform, do you have DSTs that are actually, when you mention, I forget the number you mentioned, are those all open right now or
Edward: They’re all open, 70. See, because inventory, prior to interest rates going up, the beginning of 2022, inventory was maybe 30, give or take, DSTs at any given time in the platform. Because, as you said, right, they would open up, and they would be already fully reserved because money was just flying in.
Andy: Well that’s a lot, but even 30…
Andy: like a lot.
Edward: Now there’s 70, right. Because volume has slowed down. And the way these sponsors actually distribute their product, right, is through a selling group, right? So, let’s say I’m a sponsor and I am signing up LPL, or Lincoln Financial Advisors, and those financial advisors are actually presenting those products to their clients. Well, if you’re…
Andy: You’re talking about a broker-dealer, like a DST.
Edward: Yeah, yeah. Exactly. So, a broker-dealer. So, prior to the Fed’s hiking interest rates, everyone’s picking up money off the ground. It was easy, right? Now, unless you have a brand, you really gotta climb the tree, pick the fruit. And if you don’t know how to climb trees, you’re not gonna get any fruit, because it’s not falling on the ground anymore. So, what’s happening now in the space is that a lot of the people who jumped into the DST world, you know, at the latter part of this economy, really didn’t have a brand. So they’re kind of falling to the wayside. And those that do have a brand are capturing market share. And that’s what’s happening in this industry as we speak. And the reason why inventory is so robust is because volume has slowed down. Even though ticket size or transaction size has increased, if the players in the space are no longer as robust as they were, because you can’t pick up fruit from the ground and you gotta climb a tree, that means volume has slowed down, inventory is starting to stack up on each other, and now those sponsors that are becoming more creative in making a more effective and a more economically sense DST are the ones that are getting the equity. The new guys that are coming in, they’re not getting the equity, and their deals are staying on the platform and starting to become stale.
Andy: That’s interesting. I mean, honestly, that sounds like a good thing for investors, you know, more competition, and just the invisible hand of the market forcing the sponsors to be efficient. But when you have 70 deals, DSTs rather, on your platform, are you guys a sponsor or an operator, or are these external partners that are partnering with you to be on your platform with their DSTs?
Edward: Both. Both, as I mentioned. So, we are a sponsor of senior housing. So, we’ve been doing senior housing for 15 years. And so when we create our DSTs, our DSTs are in senior housing, so we put that on our platform, and it’s exclusive. We don’t distribute that to anybody else. You can only get it from.
Andy: You’re your broker-dealer. You’re not a broker… You know what I mean, in effect?
Edward: Yeah. We do have a broker-dealer, and we have a managing broker-dealer, but it’s our deal, and we distribute that deal through our platform, not through any other financial institution. In order to create a robust inventory, we have selling agreements with… So, there’s 54 current DST sponsors. We are one of the 54, and we deal with all 53. And in that aspect, we act as a broker or a representative, but in both roles, because we, for lack of better words, I know this vernacular is not kind of a good vernacular, but because we make sausage, we know what sausage should be made like when we receive it. So, we underwrite all the DSTs the same way. Now, we put the good DSTs and the not-so-good DSTs on our platform. And people go, “Well, why do we do that?” Well, because these DSTs, other than ours, are on other platforms, because they’re being distributed by other financial institutions.
And unfortunately, investors invest based on pretty pictures. They don’t invest based on economics. And so what we do is we categorize the DSTs. Here’s a good one, here’s an okay one, and here’s not such a good one. Rather than… Even if the client doesn’t do business with us and they go to another platform, and they see the same deal that was on our platform that was not so good, they’re gonna question that competitor, and go, well, why are you not letting me know it’s not so good, when these guys have, and the business boomerangs back to us, because we are doing a due diligence process that is ranking these DSTs, to make an investor’s due diligence process a lot easier.
Andy: Oh, I see. So, you’re underwriting these other ones and then you’re publishing that report or content on your website?
Andy: Understood. Okay. So, to use the shopping mall analogy, it’s a shopping mall, and you’re putting your competitors in your shopping mall that you own, and then you’re also publishing due diligence, or underwriting, or whatever report.
Andy: Okay. That’s very interesting. So, that’s the DST side, right? So, that’s folks who already own real estate, they want to sell it. Maybe it’s an active property that they own and they wanna go passive, essentially. Maybe they’re 65, maybe they’re 70 years old and they wanna invest in a DST. So, that’s one side of your platform. And I presume those DSTs are largely or exclusively available to accredited investors or qualified purchasers.
Edward: Correct. Correct.
Andy: So, let’s talk about the other side then, because you mentioned all these other products that were available to non-accredited investors. So, let’s say I don’t own any real estate, that I’m Gen Z, maybe I’m 24, you know, and I wanna get started. Can I come to your platform as a place to get started?
Edward: You can. So, in that analogy, 24 years old, obviously, they’re not gonna have a net worth of $200,000 or an annual income of $75,000. They’re young, right? That would be more of a Reg A-type offering. And Reg A came out through the Jobs Act of 2012, i.e., crowdfunding, right? And so, our app, that’s being developed now as we speak, and our Reg A offering that’s being developed, will accommodate that investor. Right, for the young guy who’s never done anything, just getting out of college, I’ve got $100, I wanna invest, we’re gonna have core, core plus, value-added type portfolios, you click, with the AIs, boom, you can invest. Where, if an investor’s more older…
Andy: Sorry, I hope it’s okay if I discuss competitors.
Edward: Yeah, no, jump in. Jump in.
Andy: That might be like a Fundrise or RealtyMogul?
Edward: Yeah, exactly.
Edward: Exactly. Exactly like a Fundrise. And so, we have done a really good job of getting the bookends. And what I mean by the bookends is the high-net-worth investor, qualified purchaser, they know who we are, they know how to find us. But the in between the book is what we’re focusing on as a company now, because we get calls all day long, every day, from all walks of life. And unfortunately, we have to say to a lot of the younger kids, you know, getting a lot of college students coming onto our platform and wanting to understand what we do.
Andy: See, Ed, that’s what I was talking about. It’s these Gen Z, you know, they don’t…
Edward: Yeah, yeah.
Andy: …trust the public markets. They…
Edward: Yeah. They come to our platform and they really wanna understand, and they write pieces, like, you know, homework assignments on our platform, and what it does, in their economic classes. Stanford, things like that. Get a lot of kids like that. And so those…
Andy: Boy, if you have all these Stanford students, if I’m you, I want them all on my platform because I’m like, “These guys are gonna be accredited investors 20 years from now… Stanford.”
Edward: Oh, yeah. And we get professors, too. You know, you could see their email, stanford.edu or wharton.edu. I mean, professors are on our platform as well. And they’re using our platform for curriculum, to teach their students about economics and real estate, and things like that, right?
Edward: And so, with that being said, you know, for the investor that’s 35, 40 years old, that maybe has a net worth of $200,000 a year, or at least an annual income of $75,000 a year, and really can’t do the high-net-worth stuff, those are where the non-traded REITs come in, right? Or the partnership-type deals come in, or the note programs come, in regards to investors who sell a business, or sell stock, and don’t wanna pay those taxes. Well, you know, obviously, you have to be accredited to do those, and that’s where the Opportunity Zone funds come in.
So, we’re playing an infinite game, not a finite game, right? We don’t have competitors, we have rivals, right? We’re looking to have rivals, to make us better. And so, why do we do what we do, Andy? We do what we do… And I know, you know… I’m just trying to help you understand the story, is, there’s a lot of investors out there that have been deceived, misled, misunderstood. And the intent of 1031 Crowdfunding is create a transparent environment, where an investor can have the comfort to actually invest without feeling those emotions. And so that’s what drives this organization. That’s why we say, we’re playing the infinite game, not the finite game. I’m not trying to beat you, I’m trying to outlast you.
Andy: Interesting. Interesting. I think, you know, how you describe the bookend analogy, and having that whole product suite, I think that’s really important, actually, because, you know, like, on this show, we’re producing content for high-net-worth investors, right? Like, this show is really aimed towards qualified purchasers, family offices, RIAs, and wealth managers who represent those folks. But I’m always conscious. There’s a lot of other people who listen, too, and they’re the next generation of those things, right? So, by and large, most future qualified purchasers who are 21 are not… You know, there’s, I’m sure, some trust fund, you know, whatever, heirs, but they’re gonna start somewhere, and they’re gonna establish relationship, or trust, or learn brand names, and kind of along those lines, things you’ve mentioned of transparency, I really think these younger generations, they insist on that.
Edward: Yeah. I think that’s very important. I mean, there is a drastic change in the way you have to do things. You can’t continue to think that the same is always gonna work. You always gotta transform, and you’ve gotta actually accommodate for those investors that are the future. And so, those investors that are in the future are going to establish a relationship with a company that has established a brand and established a track record, and they will continue. They will continue to invest as long as the results are the results. And so that’s what we’re gearing up for. We’re gearing up for those investors. And unfortunately, there’s not a lot of platforms that actually do that, and so we wanna be one of the first ones to be able to capture that market.
Andy: I mean, especially, I’m just thinking of 1031 exchange. You have to be thinking long-term, right? Because, like, think of the typical investor who does 1031 exchanges. I mean, even if they’re doing it relatively frequently, it might be every three to five years or whatever. So, you do have to be that company that sticks around, that lasts, as you said. Because if you do a 1031 exchange, if you are exchanging in or out, whatever, if you’re involved in a transaction in 2023, I want that same investor to come back to me in 2028, or 2032, or whenever.
Edward: Absolutely. Absolutely. And we’re doing that as well. You know, the big thing now today is what’s called a 721, or an UPREIT, right? Where, if any administration does away with 1031 exchanges, which we had that scare in the 2020 campaign, no one’s really talking about 721. No one’s really knowing what a 721 is, right?
Andy: I have to say, we did do an episode on 721 exchanges and UPREITs on my show. So, yeah. But, you know what? Walk us through them again, because there’s… I mean, I think most people still don’t even know these exists, let alone how to use them. So, walk us through the 721 exchange UPREIT, and how it fits into this whole picture.
Edward: Absolutely. So, a lot of investors call us and say, you know, “I heard that I can invest in a REIT.” And I have to say to them, you know, “I’m thinking you’re…a 721 is really what you’re saying?” And so, the way a 721 works, I’ll, for your audience, I’ll draw a mental org chart. So, we have a, the top box is a Inc., the REIT. Box underneath that is a operating partnership of that REIT. And then underneath that box, horizontally, there’s a SPEs, and that’s where all the real estate is owned. And the reason for that structure is that if the real estate was owned on the top box, and the REIT said, “I wanna digress myself of $500 million of assets,” they would have to sell the entire portfolio. So, when you create an operating partnership, you can actually do what I would say pizza by the slice, right? I could sell a little bit of that, buy a little of this, because of the structure.
So, what a 721 is, is instead of investing in the top box, which is a REIT, which is not qualified for an exchange, you would own units in the operating partnership of that REIT, which is the direct owner of the real estate. That’s why it qualifies for the deferral of the tax. So, the REIT on the top is one layer removed from the real estate. That’s why it doesn’t qualify. But the operating partnership is 100% owner of all the SPEs. It does qualify. So, for investors that are looking to diversify themselves in billions of dollars of real estate, instead of one or two or three assets, they would be somebody who would go into a 721, instead… But one of the cons are… The pro is you got diversification. The cons are when you go in a 721, I call that hospice. That’s where you go to die.
Andy: Yeah, no, it’s terminal.
Edward: Right, right.
Andy: If it’s a perpetual REIT, I guess you can hold it there for the rest of your life, you know, depending on the age of the REIT, but… As opposed to a 1031 DST, where I can theoretically, every 7 years or whatever, go into a new DST.
Andy: When I… A 721 exchange would be, like, an alternative to a 1031 exchange. But now, in the REIT, I’m kind of stuck here. Is that fair to say?
Edward: Yeah. You’re not swapping until you’re dropping anymore. It’s it. It’s over, right? Your exchange is over. But what some investors like is that the ability… In a DST, you can’t liquidate unless the asset is sold. In a REIT or a 721, those operating partnership units, you can convert into REIT shares, and liquidate. So, if I have a million dollars in deferral, in the operating partnership, and I’m at a certain tax bracket at my age, and I say, “You know what? I want $100,000. Let me convert $100,000 into REIT shares, get those shares redeemed, and I’m willing to pay the tax on $100,000.” Compared to a DST, I gotta wait until the entire thing liquidates.
Andy: Everybody, with a DST, everybody goes together. But with the UPREIT, I get to choose, and I can liquidate a little bit at a time, on my own timetables.
Edward: Yep. Correct. Absolutely. Absolutely.
Andy: But you still really get the initial tax benefit. You’re just giving up the eventual tax benefit, I suppose, in exchange for having more control over the liquidity.
Edward: Over liquidity, yeah. And the thing is is though, and you’re giving up growth, right? Because in a REIT, let’s say I go in and my units are worth $10 a share. And then all of a sudden, now the REIT share at NAV is $15 a share. Well, the only way I can capture that $15 share is by converting my units into shares, and that’s a taxable event, right? Compared to the DST, I bought it for $20 million, now it’s worth $25 million. The DST liquidates, right, I’ve captured the growth of the gain on that real estate. So, in a REIT, that’s hard to do.
Andy: Understood. Well, let me ask, I know we’re short on time, but I do wanna ask about DSTs, 1031s, versus the 721 UPREITs. How is, I guess, the growth, or activity, or on a future basis, is one of those growing faster than the other? Are there any, you know, trends that you’re spotting?
Edward: So, as long as the REIT in the 721 is calculating NAV on a quarterly basis, which is a heavy lift, right, you gotta appraise all the assets, and then you’re calculating NAV, you’re gonna capture growth, right? In the DST, it’s all based on NOI, right? If you know what NOI is and you know what the purchase cap rate was, you already know what the number is when it comes to value. So, it’s a lot easier to calculate your own value in a DST than you can in a REIT, because you’re waiting on the REIT to do all the reporting for you, and then you’ll know what the value is, based on NAV, or, i.e., the share price.
Andy: But are these 721s, I mean, are they getting more popular? I feel like.
Edward: Oh, yeah.
Edward: Oh, yeah. And here’s why. Look, I’m gonna… And I know we’re short on time, and here’s why. Okay? It’s all about money, for the sponsors. It’s a benefit to the investors, but it’s all about the money. Because here’s what’s happening. If A DST liquidates, that equity either will stay or go. But, if you create DSTs, i.e., REIT food, and you take that asset in the DST and you contribute it to the REIT, and for the contribution, you give operating units instead of cash, and the investor still gets the deferral…
Andy: Oh, so now it’s, like, still part of my AUM, or whatever.
Edward: Yes. Yes.
Andy: Keeping it in the family.
Edward: Yes. The equity doesn’t have wings. It stays, right? And because client acquisition is the biggest cost of any organization. So, if you can keep the AUM, you’re making a lot of money for watching paint dry.
Andy: So, do you have a REIT, then, in senior housing?
Edward: We’re launching a REIT. We’re launching a REIT. It should be ready, hopefully by the end of this month. If not, beginning of April, end of April. It’s called the Covenant Diversified REIT. We’re starting with senior housing, behavioral health, but we’re gonna do multi-family, things like that. And the intent is to provide a good cash flow to investors, but also the intent is to create a growth scenario for the organization as well. So, I have no problem saying, it is about making money, right? You know, I am a capitalist, and it’s a lot of hard work. But it’s also a benefit to our investors who want to take advantage of that 721 option if it’s a good fit for them.
Andy: Ed, I love it. I love your candor and honesty. I mean, you know, what you do, it is hard work, and you are in it to make a profit. And I think just being transparent and having that candor actually goes a long way.
Edward: Yeah. Appreciate that. Thank you.
Andy: Yeah. But that being said, where can our audience of advisors and high-net-worth investors go to learn more about your platform?
Edward: You can go to www.1031crowdfunding, and then there’s a big orange button that says “Register Now.” And as soon as we see you come in and you’re a qualified investor, i.e., accredited, our sales team will give you access, and then you’ll be able to view everything. And if you need us for any suggestions or any feedback on what you need to do and how you need to do it, that’s what we’re here…we’re here to serve you.
Andy: Awesome. And I’ll make sure to also include that link, of course, to the website in our show notes. Ed, thanks again for joining us today.
Edward: Andy, thank you so much for having me. It’s a pleasure.