Tokenization of commercial real estate transactions will reduce transaction costs from 30% to 2%, the entry barrier for investors from $200,000 to $100, and reduce transaction time from 1 month to 1 click. In this article, we will look at examples of how tokenization works and how to do it yourself.
What Is Tokenization
This is the transfer of accounting and asset management (individual buildings, premises and cash flows directly related to them) into a digital format, where tokens symbolize digital certificates of these assets.
Blockchain technologies are now used for tokenization. This increases the reliability and security of data and also makes it possible to automate certain processes. True at the same time some restrictions are imposed on tokenization.
This requires laws and infrastructure to work with digital property certificates.
Rights can be transferred via the blockchain. This means that transactions carried out through the blockchain must have legal force and immediately after the sale of tokens, without “paper” procedures.
Tokens can be easily exchanged for a real asset. The owner of the tokens should be able to exchange them for the asset they symbolize.
How To Tokenize
By and large tokenization is the same securitization (a form of attracting investments by issuing securities) only tokens are used instead of stocks and bonds. The process of commercial real estate tokenization can be represented as three steps.
The property owner creates a digital certificate of ownership of the property or a cash flow directly related to it (for example, a mortgage loan or an annuity).
The intermediary structure produces a limited emission of tokens each of which is a digital share of ownership of the tokenized object.
After the issue tokens are sold to investors.
Let’s consider this process on the example of three cases. Each of which depicts a typical real estate transaction.
Case 1: Sale of real estate
Let’s say you own a $250,000 worth of real estate and need to sell it using tokenization. We will do this using the example of cooperation with the Alt.Estate platform (this is not the best platform; the authors chose it by chance).
The tokenization process on Real Estate is as follows:
The owner or his representative submits an application to digishares Real Estate. The application must specify the main characteristics of the property and the details of the owner.
The property is being inspected and valued. This is done by an independent contractor who is chosen by agreement of both parties.
The platform tokenizes real estate, dividing it into, for example, 1,000 virtual parts. There are 1,000 tokens, each worth $25.
Tokens are put up for sale. Trading takes place on the digishares Real Estate trading platform. The starting price is $25 per token. Further it will be formed on the basis of the balance of supply and demand.
Investors buy tokens becoming co-owners of the property being sold. If they want to sell tokens, they just need to put them up for resale.
Case 2: Investment in real estate
Now let’s imagine that you are the owner of a building with office space that is rented out. Your building is old and has not been renovated for a long time. Which is why rent brings little profit while a competitor next door is raking in money with a shovel. To increase rates it is necessary to carry out a major overhaul but also there is no money for this.
To fund the renovation you decide to tokenize. This process follows the same scenario as in the case of a sale, except for the following points.
Tokens do not confer ownership of an asset. They give the right to a portion of the rental income or fixed dividend payments.
The right to dispose of the building remains with the owner.
For buyers of tokens this is an investment asset and a risky one at that. The problem is that the owner can raise money make repairs and then sell the building leaving the investors with nothing. You can also set low rates. Which will lead to a decrease in the profitability of tokens and as a result to a decrease in their price. This will allow the owner to buy tokens at the lowest prices after which the rates can be raised to the market level.
The issuer can increase the attractiveness of such investments by undertaking not to sell the property or act against the interests of the investors. It is also possible to introduce limited asset management, for example in the choice of rates and tenants. Or delegate control to a third party.
Case 3: Early Construction Financing
The most difficult thing in construction is getting the first 20% of funding. Because of this starting threshold many developers are forced to conduct lengthy tedious negotiations. Pay large commissions mortgage personal property. To do everything in order to convince investors of their honesty and prospects for construction.
If you use the experience of tokenization and the initial coin offering. It will become much easier to raise money. Developers will simply launch a separate ICO for each new construction with their own tokens and sell them on the financial markets. This will lower the entry threshold, which will increase the number of investors.
You can conduct such a crowd sale on the Digishares.io platform. Their experts recommend doing this in three stages:
Stage 1. Private pre-sale
As in the case of traditional ICOs, it is better to start the initial offer during real estate tokenization with closed sales for large investors. This approach will help to understand whether the project has prospects: if investors are interested, the crowd sale can be continued, if not, it is better to close it.
At this stage, 5–10% of the total emission of tokens is sold. Investors are either invited privately or whitelisted. In the latter case, as a rule, applicants are screened out according to certain criteria: passing KYC & AML procedures, the status of an accredited investor, a significant minimum threshold for entry, and so on.
Stage 2. Pre-sale
After the successful completion of the private pre-sale, the project is presented to more investors. More open information on construction is given, details of the investment transaction, data on contractors and so on are announced.
During the presale, 60–75% of the tokens are sold. If the initiators of the project are confident of success, they continue to work with the whitelist, if not, an open sale is announced. At the same time, most of the restrictions are removed and the minimum entry threshold is reduced.
Stage 3. Main crowd sale
The last 15-25% of tokens are sold openly and usually without any barriers for investors. This is necessary to attract attention to the project and reduce marketing costs: you can launch a bounty campaign and airdrops.
What are the benefits of tokenization
The World Economic Forum estimates that by 2025, more than 10% of global GDP will be denominated in cryptocurrency assets, which will amount to over 10 trillion US dollars. However, most of these assets will be related to fractional ownership and liquidity premiums.
So, tokenization will allow you to break down the value of real estate into hundreds or millions of tokens, which can be broken down into another eighteen decimal places. Thanks to this, even the most expensive real estate can be virtually divided into shares (tokens), which will cost a penny.
For example, if you tokenize the New World Trade Center skyscraper in New York, which is valued at $4 billion, by dividing it by 1 million tokens, then the minimum investment threshold will be only $40. At the same time, you can sell tokens without cross-border restrictions. Check this for more details https://verschiltussen.com
Studies show that such changes increase the volume of the market by 20-30% by revealing its value through “liquidity premiums”. This growth will be a direct consequence of the ability to invest in real estate in any country from anywhere in the world, which can be done, including through fractional ownership.
Programmability, in the case of tokenization, means the ability to embed simple business logic into smart contracts, thereby automating most of the workflow. This will facilitate the management of both real estate and investments.
Programmability is especially useful for:
Realizations of control rights. Thanks to the blockchain and smart contracts, token holders can make consolidated management decisions, being in different parts of the world, without knowing each other and without putting a single stamp or signature on any document.
Payment automation. By writing in a smart contract a formula for distributing profits from the sale of real estate or renting it out, there is no doubt that payments will be made on time and honestly.
Operation speeds. Traditional ways of managing commercial real estate are tied to long bureaucratic procedures that take months. On the blockchain, such procedures take minutes.
Data on the blockchain cannot be changed or deleted, and transaction details leave a public trail. Thanks to this, you can confirm or track the history of ownership and avoid fraud and errors.
Things to keep in mind when tokenizing
Lack of legal infrastructure
Tokenization is the creation of a digital security that falls under the jurisdiction of the US Securities and Exchange Commission. To conduct tokenization, you need to register the issue of tokens, obtain permission and act within the law.
Which law depends on the specific token sale (the cost of the object, who is allowed to invest, whether there will be promotion and what kind) and the rights that tokens give. This is detailed in The DAO Case Report and the SEK warning about blockchain startup scams.
Tokenization does not mean instant liquidity
The possibility of buying a token does not mean that it will be bought today or tomorrow. As of yet, there is no central market or markets where information about all real estate tokens can be found.
You need to create liquidity at this stage of market development the old-fashioned way – with the help of advertising. At the same time, a marketing strategy should be chosen very carefully, since promotion in a foreign country is risky, and advertising around the world will ruin even Bill Gates.
Always remember about KYC & AML
KYC, or Know Your Customer, is an identification procedure that is carried out to make sure that there are no scammers, criminals, fakes among investors. If you took a loan from a bank, then you also went through KYC, when employees scanned your passport or took a photo along with the document.
AML, or Anti-Money Laundering, is a check of personal data against Politically Exposed Persons (PEP) and other lists of potentially dangerous users, where they analyze information about citizenship, visiting countries with a high risk of terrorist threat, looking for signs of possible money laundering, terrorist financing or theft personal information.
If you are tokenizing in the USA, then you are required to conduct KYC & AML. Independently or with the help of third-party specialists, for example, through the Crypto nomos or Bitcoinsuisse.ch platforms.
There is no single standard for the requested information, but it is usually:
- Full name, passport data;
- country, city, postal code;
- place of residence or address of registration;
- mobile and/or landline phone number.
- To verify the authenticity of this information, you are also asked to send:
- photo or scanned copy of passport, driver’s license or ID-card;
- a selfie where you hold a document near your face;
- paid utility bills.