There has been much made recently of how the tokenisation of real estate assets could be used in the future. This is a new technology that undoubtedly offers new opportunities to the real estate market but, like most new technologies, comes with its own difficulties.
What is an NFT or token?
NFT stands for non-fungible token. An NFT is data that exists and is stored on the blockchain and represents a unique digital asset.
A real estate token is similar to an NFT, except these tokens are usually tied to the value of a physical real estate asset and represent ownership (or part ownership) of the physical asset.
NFTs and tokens can be sold and traded over an exchange. This can facilitate and simplify the transfer of ownership in the asset the NFT or token represents.
A real estate token can represent:
- ownership of part or all of the physical property
- an equity interest in the entity that controls the physical property
- an interest in a debt secured by real property
- a right to a share of the profit generated by real property
In short, real estate tokenisation has emerged as an unconventional investment vehicle with advantages for both the token’s issuers and the investors.
Physical real estate
First, let us deal with the physical world. A real estate token is a useful way to divide the ownership of a physical property (or group of properties) or represent a right to a share in the income generated.
Many real estate investors (or those entities involved in real estate investment) feel that there are three major benefits to the use of real estate tokens:
- They lower the barrier of entry for investment in physical real estate. The divided ownership structure allows smaller investors to invest in physical real estate which traditionally has required investors to put up significant capital to participate.
- Increased investment from smaller scale investors will increase the overall capital invested into real estate assets which will benefit all investors involved. Since real estate tokens can be easily and securely traded on dedicated exchanges they will also increase liquidity in a notoriously illiquid real estate market.
- Real estate tokens also lower the transactional costs connected with real estate transactions. This is due to the underlying blockchain technology used to create and store these tokens. This technology provides increased security, transparency and automation (via smart contracts) which all result in lowering the costs associated with the transfer of physical real estate.
In order for real estate tokens to be adopted by the retail investor, the law and financial regulations must catch up with the technology.
Many real estate tokens will be considered a security and must therefore conform to security law. However, the existing laws and regulations relating to securities cannot always be easily applied to this new type of security, and reform will likely be necessary.
Updating or reforming the current laws and regulations to include these new forms of securities is crucial and will give investors clarity and security on their investments.
NFTs do not necessarily need to be limited to representing the division of ownership in a physical real estate asset. They could also be used as a new form of property title.
This new property title would include all of the usual information one would expect to see on a traditional legal title and further additional information such as up-to-date management data and certain property search results.
Since the NFT exists on the blockchain the use of an NFT as a legal title will reduce the existence of title fraud as the NFT will be immutable. It will also increase efficiency in the transfer of ownership as the NFT can contain more information relating to the property that will be of interest to an investor and the information can be provided in real time.
The consideration of an NFT legal title also highlights another obstacle to the wider adoption of this technology. Before more investors will be willing to use tokens they will want to know that it is compatible with current Land Registry rules or for the Land Registry to update or clarify these rules to guarantee compatibility.
Digital real estate in the metaverse
The “metaverse” is the term coined to describe the still-evolving digital world that exists on the internet. Within this digital world users can interact, attend events and play games together.
It is also possible to buy digital real estate in the metaverse by purchasing an NFT that is linked to a particular parcel of digital land. The NFT will represent the unique ownership of that digital real estate.
Buying this digital land via an NFT comes with all the benefits of the blockchain, including verifiable proof of authenticity and ownership of the digital land.
Of course, many may find it difficult to get their head around paying for any digital asset but you only need look towards the NFT art or collectible market to see the potential for digital real estate. Particularly as many major brands are moving into the metaverse as a way of marketing and promoting their products to a new generation.
There could be potential for this new generation of real estate investors who invest in digital real estate to realise new revenue streams - such as renting out digital land to brands for events, product launches or advertising purposes.
Purchasing the NFT of a piece of physical real estate
At the moment, the ability to purchase an NFT of a physical real estate asset seems to be an attraction for NFT and/or architecture enthusiasts, but you can also see how it could become more common in the future.
An NFT of a physical real estate asset will include the exact dimensions of the physical property it represents, meaning you could create a digital twin of your physical property in the metaverse. This could lead to opportunities of owning the digital twin of famous landmarks or land of certain significance (i.e., childhood homes of famous individuals). An investor could then use the property in the metaverse for either their personal enjoyment or for their commercial gain.
However, investment in digital real estate can be perilous. At the moment, the metaverse appears to consist of a collection of blockchains, and there is no guarantee which ones, if any, will become the dominant chains on which to purchase your digital real estate.
There is also a worry that digital land may be in a bubble similar to the art NFT bubble that recently popped.
From a lawyer’s perspective there are many considerations which would relate specifically to the transfer and leasing of digital real estate such as who is responsible for ensuring the technology that stores your digital property is maintained, restored and fit for purpose?
There is no doubt that real estate tokens offer major benefits to investors but these benefits cannot be fully realised until the law catches up with the technology. This will require the Government to increase the pace of their considerations of digital assets and change the current laws and guidance to ensure that it applies to real estate tokens. This will not be easy given the ever evolving nature of this technology but will be essential to promote the wider adoption of real estate tokens.
The benefits of digital real estate may be less clear, particularly to traditional investors, but is indisputably an interesting concept that has potential for new revenue streams. However, this technology is still in its infancy and the success and reliability of these new revenue streams will not be truly known until the technology matures.
This will require investors to wait for the metaverse to grow and evolve into a more established structure that is widely used by the general public. In the meantime there will be speculators out there that will hope to cash in at an early stage of this new digital asset which will most likely cause a boom and bust cycle in the short term.
If, or more likely when, digital real estate becomes a legitimate asset – one that is widely traded and utilised commercially in the metaverse - lawyers will need to consider how this new asset is used and what rights, of the parties involved, need to be granted and protected.