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Investors beware: The risks of real estate tokens

Blockchain technology is supposed to make investing in real estate cheaper, more transparent and more accessible. But most investments on the market are in fact tokenized debt instruments. As an investor, you have few rights. Even otherwise, you should not underestimate the risks of real estate tokenization.

Tokenization allows a property to be broken down into many small shares. Investors in America or England can therefore build up a real estate portfolio with a small amount of capital. This is also possible without tokens with open-ended real estate funds. Their disadvantage is that they are not very transparent because they invest broadly. Which is also their advantage. Diversification reduces the risk.

Investors notice a drop in rents

With a real estate token investment, on the other hand, investors participate in a single property. They know the exact address of the property. However, if the rental income fails to materialize, investors will also feel this directly: the return on investment will be less good due to the drop in rent.

The blockchain does not protect against junk real estate

Another common argument in favor of blockchain is that it makes investment transactions secure. It’s true: The blockchain, as a decentralized, digital ledger system, stores data in such a way that it cannot be tampered with. However, distributed ledger technology does not protect investors from risky bad investments. After all, security real estate tokens represent shares in real estate assets. However, this does not mean that a house or apartment is worth its money in terms of realization possibilities. There are also junk properties on the blockchain. English or American investors should therefore also inform themselves precisely about the framework conditions of their investment. This also applies to diamond tokens, car tokens or the purchase of art NFTs.

The quality of the investment is crucial

Consumer advocates caution that investors should not be blinded by the technical advantages of the blockchain. It is true that the technical process is simplified by digitization and thus certainly optimized in terms of costs, says the consumer protection form. But that has no effect on the actual project, he adds. “With security tokens, you have to distinguish between the technical processing of the company financing and the opportunities and risks of the capital investment,” says Niels Nauhauser, provision and credit expert of the consumer center Baden-Württemberg in the newspaper “Welt”. Private investors should therefore always take a very close look at a project. The problem: As a rule, they do not have the experience and expertise needed for a correct property valuation.

Prof. Dr. Michael Voigtländer, Head of the Financial and Real Estate Markets Competence Area at the Institute of German Economy

In most cases, real estate tokens are shares in subordinated debt, which is associated with high risk.

Prof. Dr. Michael Voigtländer, Head of the Financial and Real Estate Markets Competence at Institute of German Economy

Three questions you should have answers to

As with all investments, it all comes down to the quality of the investment. Investors should therefore ask themselves three questions:

  1. In which property in which location am I investing?
  2. What is the risk associated with this particular property?
  3. Is the promised return appropriate for the risk?

Providers dutifully warn of the possibility of a total loss of the investment. Investors should take this seriously. After all, the risks are by no means merely theoretical. “Especially since it is legally difficult to split ownership of real estate on tokens,” says Prof. Dr. Michael Voigtländer of the IInstitute of the German Economy. In most cases, investors currently invest in tokenized debt securities, not security real estate tokens. This means that the tokens do not represent proportional ownership of a property, but rather the rights to a bond that finances the property.

Tokenized real estate – real example

The table shows the initial financing phase of the condominium Mien Boh in Rahlstedt (Hambur). What should be noted are the “purchase costs.” There, the blockchain platform Finexity lets investors co-finance almost 18 percent of the actual purchase price again.

Purchase price (incl. parking spaces)
1.969,500 EUR
Total purchase costs
347.586 EUR
Incidental purchase costs*
121.912 EUR
Equipment costs
55.000 EUR
Legal costs
2.380 EUR
Structuring costs
46.874 EUR
Agency commission
82.030 EUR
Liquidity reserves
39.390 EUR
Total acquisition price
2.317,086 EUR
Bank loan
1.323,350 EUR
Investor capital
993.736 EUR
Source: Finexity
*Property transfer tax, notary, land register/land charge registration

Token owners are subordinated creditors

This adds explosiveness to the investment. Because: “In most cases, these are shares in subordinated debts, which is associated with high risk,” says Voigtländer. If income from the property is lost, if there is a total loss or if insolvency occurs for other reasons, subordinated creditors are in a very unfavorable position: They only receive money after the insolvency administrator has paid out all the others. And then there is usually not much left.

Houses with cryptocurrencies in the background.
Risky investment in real estate tokens: In case of losses, the investor is usually in a bad position.

Issuing costs can be considerable

One advantage that advocates of distributed ledger technology cite: The blockchain makes investing cheaper. However, this is not always true. This is shown by the example of a token investment in condominiums in Hamburg that has just been financed. There, the blockchain platform Finexity lets investors co-finance another almost 18 percent of the actual purchase price for the “purchase costs.” If you factor out the equipment costs – in this case for fitted kitchens – it’s still 15 percent “on top.”

Tokenized debenture including risks

The Finexity project also exemplifies that token investments in real estate usually take the form of tokenized debt securities. And this includes the risks mentioned above. After all, with a bank creditor claim far in excess of the investor capital contributed, there is little left for token holders in the event of insolvency.

FAQ – Frequently asked questions

Do I get ownership shares in a real estate tokenization?

Currently, most real estate tokenizations are tokenized debt instruments. This means that the token purchase does not make you a pro rata owner. You are only a pro rata owner of rights to the bond that the issuing company uses to finance the real estate purchase.

What is the risk of real estate tokenization as a bond?

Tokenized debt securities are so-called “subordinated loans”. If the issuer becomes insolvent, you will not get your money back on a pro-rata basis until all other creditors have been served.

To what extent are real estate tokens still risky?

Private investors usually lack the experience and expertise to correctly assess the value of a property. So they have to rely on the information in the sales prospectus. And these are not always reliable.

Sabine Melichar

Editor | MBA University of Cologne / San Diego State University.
Main focus: Tokenization | Enterprise Digitization | Vocational Education | Society

Sabine Melichar

Redakteurin | MBA Universität Köln / San Diego State University
Schwerpunkte: Tokenisierung | Digitalisierung von Unternehmen | Berufsbildung | Gesellschaft