Clients of KORE Technologies have been tokenizing real estate locally and internationally using KORE’s Digital Assets Issuance Platform.
Clients of KORE Technologies have been tokenizing real estate locally and internationally using KORE’s Digital Assets Issuance Platform. Tokens provide representation for multi-party ownership, especially for indivisible assets, by splitting up the asset into small pieces with equal rights and value and offered to different investors. For example, you can transform a large apartment worth $1,000,000 into a total of 1,000,000 tokens, where each token is equal to 0.000001% of the apartment’s value. Now a user can buy a single token and own 0.000001% of the apartment’s ownership or buy 40,000 tokens, they own 0.04% of the asset. In a nutshell, asset tokenization plays a crucial role in the management and trade of illiquid assets in the long term.
The tokenization of real estate using blockchain technology has been a hot topic among buyers, sellers and investors for a while now. It has the potential to revolutionize the conservative real estate market. To realize this, the Hamburg Commercial Bank (HCOB) and the Frankfurt School Blockchain Centre (FSBC) came together to examine the market in a new study
. An expert trio deep dived into the subject to look at future applications and growth potential of the blockchain technology in the real estate market.
The study concludes that the blockchain technology-based tokenization of property has what it takes to revolutionize the typically rigid and conservative real estate market – but it still lacks certain prerequisites.
Tokenization of the real estate market – where it all started?
Back in March 2019, Brickblock, a Berlin-based financial services provider, tokenized and sold a residential property for €2 million in Wiesbaden, Germany. It was the first transaction in the EU for which real estate shares were registered as digital tokens on the blockchain – a starting shot for a technological development that could transform the real estate industry.
In 2018, real estate was valued globally at around US$228 trillion – that is roughly 2.5 times the global equity market. Considering the transaction volumes, real estate worth €74 billion has been traded in Germany alone between August 2020 and July 2021.
Despite being one of the largest asset classes worldwide, real estate is often characterized by slow, complicated, and very rigid processes, making it difficult for private investors to enter the market. Advocates of real estate tokenization believe that blockchain has the potential to break these rigid structures. Also, in the course of decentralization and automation, they believe tokenization will make investing in real estate not just more simple but will also enable small investors to invest in this asset class without having to buy large real estate objects as a whole.
Here’s a quick look at the diverse benefits of tokenization of real estate:
· Investment providers reach a larger target audience to financing a project.
· Tokenization is the foundation for greater liquidity of the real estate market since tokens can be traded more easily than the object itself
· Tokenization reduces administrative costs and automates processes. For example, it allows to onboard a new investor in full regulatory compliance within 15 minutes.
The market for tokenized real estate is mainly controlled by investments in securities as of now. It is centered around security tokens such as shares and bonds, which relate to a property. The buyers are entitled to a portion of the cash flow associated with the property.
Figure: Tokenization of a real estate security
Investment providers reach a larger target audience to financing a project
From the investor’s point of view, one of the biggest advantages of tokenization of real estate is the ability to make real estate investments more fractionated in the future for private investors at a significantly lower cost without geographic restrictions or capital size. For example one of KORE Technology’s Swiss based client, offers real estate investments from as little as CHF 100. This makes real estate investing more accessible compared to conventional financial instruments. Real estate tokenization also opens the market to new groups of investors, because crypto currencies can be accepted as means of payment.
Based on costs and minimum participation, the study distinguishes between two options for real estate investment:
Real estate tokens: minimum participation in the projects recorded in the study is between €100 and €500. Investors can invest in several properties due to the significantly lower entry amounts and thus can diversify their property portfolio. Although there is a lack of a large secondary market to resell the tokens, around half of the providers examined in the study offer investors the opportunity to trade the tokens on a secondary market.
Closed-end real estate fund: minimum participation is significantly higher (often starting at €5000 or higher) and associated with higher costs for the investor. Due to the high entry sum, investing in closed-end real estate funds of choice is difficult. Open-ended real estate funds, on the other hand, allow the investor can choose among individual projects. Although, here, the investor has to rely on the decisions of the fund manager.
Tokenization as the foundation for greater liquidity of the real estate
By nature, real estate is one of the most illiquid asset classes that has suffered from increasing transactional costs and high capital commitments. Blockchain technology has the potential in addressing the issues of illiquidity of real estate by adding enhanced liquidity. In the past, real estate could only be liquidated as a whole and with great effort, but owners of real estate tokens in the future will be able to resell them at will via blockchain-based trading platforms.Even for private asset managers and family offices, higher liquidity of real estate is very promising and allows for wider diversification of their investment portfolio.
Tokenization reduces administrative costs and automates processes
Investor onboarding in the traditional world is often linked to cumbersome paperwork and long compliance processes. Offering a fully digitized, regulatory compliant investor onboarding allow to cut this time span to 15 minutes. This lowers the entry barriers for participants, reduces cost and saves time for all stakeholders.
The tokenization of real estate is also linked to improved asset management. Using smart contracts makes purchasing and managing real estate assets a lot more straightforward than the current analogue process.
Buyers and sellers have to convey the same information to different parties (brokers, lawyers, notaries, banks, and insurance companies) involved in the sale of a property – an ‘inefficient’ approach. If the information is stored on a blockchain to which the relevant parties have selective access while the payment flows for the purchase price, fees, interest, and repayments are processed via the same protocol, the processes could be significantly slimmed down and designed more economically. With smart contracts, these process steps can run largely autonomously as soon as necessary conditions such as authentication of the investors or confirmations of payments have been made.
For standard transactions, digitized land records available on the blockchain ensure that the far more costly notary would no longer play a role and the property in question could be tokenized directly. This also means the transactions are associated with fewer ancillary costs and can be carried out quickly. However, for complex transactions with commercial real estate, a notary is likely to continue to be required in the next few years and possibly decades.
Many practical & legal issues still need to be tackled
While the market for tokenized real estate is quickly democratizing access to real estate investment, it is still hindered by a high degree of uncertainty. The primary development prerequisite of projects related to tokenized real estate is an adequately developed regulatory environment alongside a legal foundation that offers token issuers and asset managers legal certainty. A legal framework coordinated with tokenized real estate market would allow the setting up of decentralized trading venues through which verified companies can trade their real estate tokens freely and ideally throughout the EU. The land register is not yet digitized on blockchain and could also be part of this regulatory development. Once they are digitally mapped, they can be efficiently managed and automatically updated using this new technology.
Advocates of tokenized real estate firmly believe that there will be fewer problems, but it is going to take some time.
Market analysis of tokenized real estate
The real estate tokenization study focuses on 41 companies in 17 countries from the tokenized real estate sector. The United States ranks at the top with 13 companies offering investment in tokenized real estate. The second and third spots are reserved by Germany (with six companies) and Switzerland (with four companies).
Source: Frankfurt School Blockchain Center and HCOB
Figure: Tokenization companies by country
The Ethereum protocol was a clear leader among the projects analyzed in the study. This is particularly because of its ability to create smart contracts and thus transparent tokenization protocols on the Ethereum blockchain. It is the standardization of tokens that simplifies the regulatory approval of tokenized real estate via Ethereum, as the responsible authorities are becoming more and more familiar with these standards. KORE Technologies’ first projects were implemented on Ethereum as it features the most adopted token standards. This protocol also boasts the largest community of developers, designers, technologists, users and enthusiasts and therefore an inherently strong network effect. Over the years, Ethereum blockchain has transformed into one of the most solid tech solutions.However, there are some downturns: varying, sometimes excessively high transactions fees and transaction congestion prevent large corporates from running solid operations on this protocol. Therefore KORE together with other Swiss certified infrastructure partners have set up a layer 2, fully Ethereum compatible blockchain solution: Dragonfly
. It is based on Hyperledger Besu
and allows our clients to operate at scale with minimal transaction fees, high transaction volume and almost real time transaction speed. The fully certified, hyper secure solution solves all the problems of the Ethereum protocol without losing the network advantages of the same. It is the solution to operate at scale and long term.
Real estate tokenization: An absolute game-changer in real estate investing
To simply label the potential of this innovative real estate investment landscape as large would seem an understatement. While the market for tokenized real estate is still in the starting blocks, it is readily seen as an area of explosive growth potential as more and more industries have started to embrace the competence of the token economy.The cost-effective fractionalized ownership and liquidity of the real estate investment and the automation advantage of blockchain technology promise significant operational efficiency. From an issuer’s perspective, fractionalization in real estate will allow them to reach a wider base of private investors whilst investors benefit from costs savings and a tendency towards higher yields. The foundation has been laid. The phenomenon will take some time before the regulatory environment for real estate tokens gets more mature. Trends around tokenization in other areas could even generate synergies. The increasing enthusiasm for NFTs, in particular, is guiding developments in and around tokenization.