How to lose money in real estate, part 1

If you are to believe the influencers and gurus on Tik Tok, then you know that real estate investing is completely passive, super-quick, and a path to extreme riches in the very near term. All you need is the guts to quit your job, fork over tens of thousands of dollars to said guru, join his "Mastermind," and that yellow Lambo is yours, all yours, before you know it. Rides in private jets from here on out, only.

Obviously that is social media fiction, not reality.

On this blog, we document the real results we are having as we go along--one family that has been investing in real estate for a while alongside W-2 jobs and the ordinary stock-and-bond investing approach for retirement. We are taking standard sized risks for a family that has children and doesn't need the real estate income to put food on the table or pay a home mortgage. The vast majority of our real estate investments--mostly a group of investments in private real estate syndications--are working out close to the plan. We've written about the one or two outliers that have issued capital calls and seem to be on thinner ice. But most of them are paying out passive income and/or seem on track to pay out with capital appreciation as the mode of return on investment.

And then there is one that seems like an outright loser: the company that issued the investments, PeerStreet, recently declared bankruptcy. While we have not yet realized losses, the prospect of losing some money seems quite real.

For those who do not know what PeerStreet is (soon to be, "was"), here is how they described themselves. They claimed to be:

The first two-sided marketplace for investing in real estate debt. We’re taking on one of the world’s biggest industries with an even bigger idea: to make real estate financing work better for everyone.

Our experience with PeerStreet goes back now about five years--to 2018. As we were testing out various strategies to invest in private real estate, we invested in Fundrise (still going strong), private syndications (about 20 or so), and two funds that focused on debt. One of those was PeerStreet. (The other we will write about another day--American Homeowner Preservation.)

According to the founder and CEO, Brew Johnson:

As a society, we can either continue to build more new homes and take over green spaces, or we can up-cycle and renew aging and dilapidated homes.

On PeerStreet's platform, they presented loans to accredited investors like us to help pay for this "up-cycling" and "renewing" of old properties. You could join a group and invest in those specific loans various amounts. We typically invested $1,000 per property and were in a dozen or two of these outstanding loans at a time. They paid a rate of interest that was higher than the typical loan of the time since it was "hard money" and more risky than ordinary loans. It seemed as though we were mostly loaning money for construction or work on existing properties that needed renovation, including single-family homes, small apartment buildings, and other small commercial properties. Most paid back on time or early.

To give the PeerStreet team their due, before getting to this point of bankruptcy and money-losing, they definitely offered a number of loans that paid back. According to our Dashboard on PeerStreet (which is still running), across the dozens of loans we made from 2018-2021, we earned a total of +$1,965.30 in investment returns. They claim that our annual return has been 4.7% and a cumulative return of 23.1% over 5 years (2018-2023). It's not a fortune but not a total disaster either. We didn't put a ton at risk and we got a modest return. Fair enough.

To give ourselves our due, after investing with them for 3 or 4 years, we decided in 2021 that there were better uses for our money. We preferred the apparently-more-stable Fundrise, into which we have invested much larger sums. As of 2021, we stopped making new investments on the PeerStreet platform and just began to let them "burn off," taking the modest distributions. We have just taken the proceeds and put them to other investment uses as they came our way.

As of June, 2023, we were down to two investments on the PeerStreet platform, each a loan of $1,000, as all the others had paid back. One was a loan for a small commercial property in Houston, TX--one of our earliest, from 2018. The other was for a small building in Philadelphia, PA. Both are "REO," meaning that they stopped paying and the company (PeerStreet) took them back from the borrower and have been trying to sell the two properties (without success at any price). On one of them, they sent us a bit of money back: $250 from the bank that was holding back funds for construction that were never used.

That leaves us with two loans outstanding on the PeerStreet platform with a cost-basis to us of $1,747.78. We assume that money is gone forever. We presumably will get a claim in the bankruptcy proceedings. PeerStreet's bankruptcy executors should get something for their loan portfolio from a new buyer. Depending where we fall in line in the bankruptcy "line at the window" to get proceeds, we might or might not get a bit of that back. Are we holding our breath? Not at all. In our mental accounting, we consider that $1,747.78 a total write-off--a cost of our private real estate investing eduction. Not a crisis; a "learning opportunity."

Some takeaways:

• It is indeed possible to lose money investing in real estate. Never listen to anyone who says real estate "always goes up and to the right." It is simply not true.
• Investing involves risk--even when your investment appears to be backed by a real and valuable asset such as a commercial building. You get larger rewards than keeping money in your mattress or saving account and you stand to lose the principal as a result. Either invest or don't but don't be fooled about what you are getting into. For us, that means not putting at risk any money we need for any purpose any time soon.
• Beware investing in a start-up's offerings. We probably will never invest in something as new or new-fangled as PeerStreet again. That does not mean "no crowdfunding" necessarily: we have had a great experience so far with Fundrise and will continue to add to that position.
• Take the longer view and perhaps things don't look so bad. Yes, we are likely to lost about $1,750. But we also made about $2,000 on the platform in the prior several years. We haven't kept up with inflation, that's for sure, but if you squint, you could say we "didn't really lose money" and "made $250" on the trade over a 5 year period. Sort of.