Investors Seek To Shut Down CrowdStreet After Nightingale Fiasco

A group of investors who lost their money in Nightingale Properties' now-infamous offerings on CrowdStreet are looking for payback and focusing their attention on the real estate crowdfunding platform they say let it happen.

Attorneys acting on behalf of a dozen investors who collectively had more than $1.5M misappropriated from Nightingale's failed bid to acquire the Atlanta Financial Center have filed an arbitration claim with the Financial Industry Regulatory Authority against CrowdStreet. They are seeking more than $3M in damages and an injunction that could effectively stop it from operating. 

The claim, which was obtained by Bisnow and hasn't been previously reported, was filed last month by Joshua Kons, a Connecticut-based attorney, and Chicago-based securities litigators Andrew Stoltmann, Joseph Wojciechowski and Sara Hanley with Stoltmann Law Offices. 

The attorneys declined to name their clients, but Kons and Wojciechowski said in an interview they aren't waiting to see if Nightingale CEO Elie Schwartz ultimately makes good on his promise to pay investors back over the next three years.

​​“I can't imagine a scenario where somebody in Schwartz’s position is going to be able to make this right. You don't take investor money and trade First Republic Bank options with it,” Wojciechowski said. “That he's going to end up with handcuffs on eventually is, I think, pretty clear at some point, which will make paying back these investors from his stake impossible. It's not realistic for the investors to sit and wait.”

The CrowdStreet investors are asking a panel of FINRA arbitrators to force CrowdStreet to refund all of the money they invested through the platform, not just in Nightingale's deals. They are also seeking punitive damages, a declaration that CrowdStreet “willfully violated federal securities laws” and a permanent injunction to prevent it from selling or marketing securities.

The attorneys wrote in the claim that Austin-based CrowdStreet had acted as an unlicensed broker-dealer and didn't conduct the proper due diligence when evaluating the deals Nightingale brought to the platform. They also said the fact that CrowdStreet didn't require investor money to be put in escrow accounts until deals closed is evidence that it wasn't acting as a responsible steward of its customers' money. 

“Not having an escrow account to hold those funds subject to closing is, in my view, the most catastrophically bad due diligence fact you can have in a case like this,” Wojciechowski said. “Not having an escrow account to ensure that Schwartz couldn't take this money and do with it what he pleased, like he did, prior to the properties closing or to these transactions closing is, I believe, a fatal fact for CrowdStreet.”

In response to detailed questions about the arbitration claim and accusations that it acted as an unlicensed broker-dealer, a spokesperson for CrowdStreet sent Bisnow a brief statement.

“While we do not comment on arbitration matters, any claim that CrowdStreet acted as a broker in connection with Nightingale's offerings is inaccurate,” the spokesperson said. 

A FINRA spokesperson declined to comment. A spokesperson for Nightingale didn't respond to requests for comment for this story. 

Any entity, whether individual or an organization, that sells securities on behalf of clients is considered a broker-dealer and must register with the Securities and Exchange Commission, according to the Securities Exchange Act of 1934. The SEC's rules say any “persons that market real-estate investment interest” as a security is a broker required to register.

In 2007, the enforcement of broker-dealer regulations was put under a newly created body called FINRA, which combined the enforcement activities of the National Association of Securities Dealers and the New York Stock Exchange. To operate as a broker-dealer, companies and their employees must secure a license from FINRA.

Several independent securities law experts told Bisnow that even if a firm isn’t licensed as a broker-dealer, if it is marketing and selling securities, which includes shares in commercial real estate investments, it automatically must fall under the rules and regulations established by the Securities Exchange Act. 

“Each of the activities CrowdStreet engages in are traditional hallmarks of broker-dealer activity as defined under federal securities laws, as well as the Texas Securities Act. However, despite acting in all material respects as a broker-dealer, CrowdStreet failed to register as a broker-dealer — more than a decade after its inception,” the arbitration suit reads. “There is no valid exemption from broker-dealer registration which CrowdStreet can rely on.”

CrowdStreet maintains that its role was strictly of a neutral marketplace that didn't promote or recommend investments. It received a FINRA broker-dealer license in May 2022 but didn't start operating as a broker-dealer until after Schwartz transferred tens of millions of dollars of its customers' money into his personal and business accounts. 

“Since launching its first brokered offering in September 2023, all subsequent offerings listed on the Marketplace have been brokered,” a CrowdStreet spokesperson said last week. “While CrowdStreet did not provide brokerage services prior to that time and was not a party to the investment agreements between the sponsors and investors, CrowdStreet was selective in determining what sponsors and offerings to list on its Marketplace.”

It also sent customers emails touting Nightingale's proposed deals as a “trophy asset with huge potential.” It worked with sponsors to make their offerings more appealing, multiple former CrowdStreet employees told Bisnow.

“It's an extremely fine line that you balance when you start introducing real estate deals to investors,” said Adam Gower, a consultant for sponsors raising real estate capital through crowdfunding.

“It's a hard thing to say, ‘We've done our homework. We've got this checklist. We don't allow people to put their deals on our marketplace until we've evaluated them,’ and to have a summary of how they do due diligence and then say, ‘But this isn't a recommendation to invest,’” he added. “That, I think, is the difficulty.”

Gower has worked with many of the real estate crowdfunding platforms that have popped up in the past decade and wrote two books on the subject of raising money for commercial real estate deals online. He said that early on in the crowdfunding industry, no one asked about broker-dealer compliance or the use of escrow. 

CrowdStreet wasn’t alone among its real estate crowdsourcing peers in lacking a broker-dealer license. None of its peers, including YieldStreet and RealtyMogul, are listed as licensed crowdfunding broker-dealers with FINRA, according to the agency’s website.

“Escrowing inbound investments prior to releasing to the sponsor, in the context of investor protection, was never a topic,” Gower said. “It was never anything that anyone ever really talked about. Until it went wrong.”

The Oversight

CrowdStreet launched in Bend, Oregon, in 2013, just a year after the real estate crowdfunding industry was born through an act of Congress.

Co-founders Tore Steen and Darren Powderly saw CrowdStreet as a technological platform that could connect real estate investors and developers with a pool of investors who could put in smaller increments of money than in traditional commercial property deals. 

The platform was one of a handful of firms that saw business take off during the pandemic. More than $1.2B was raised on CrowdStreet in 2021 alone. It also has raised nearly $70M in venture capital.

The firm's structure has evolved as it has grown. A subsidiary, CrowdStreet Advisors LLC, has been registered as an investment adviser with the SEC since November 2018. An investment adviser, according to FINRA, is “paid for providing advice about securities to clients.”

A different CrowdStreet entity, CrowdStreet Capital LLC, has had an approved broker-dealer license through FINRA since May 2022. But despite securing its license, CrowdStreet Capital LLC didn't broker any deals on the CrowdStreet marketplace for more than a year. 

In an interview with Bisnow in July, then-CrowdStreet CEO Steen said the reason the firm didn't operate officially as a broker-dealer during that period is because of how long it took to get each of its roughly 50 employees licensed individually with FINRA. 

“It’s pretty extensive to get that many people licensed,” Steen said at the time, weeks before he was replaced as CEO.

Internal CrowdStreet documents obtained by Bisnow show that CrowdStreet had originally planned to roll out its broker-dealer service by February 2022, offering brokered deals and marketplace-only deals on its platform in a hybrid model.

In a presentation shown to CrowdStreet employees in November 2021, the company said unless it became a FINRA broker, it couldn't “hold sponsors accountable for investment terms and reporting” and couldn't charge a percentage commission fee on marketplace deals. 

But while the presentation laid out the legal differences between a marketplace and a broker-dealer, it also told employees, “We are not fundamentally changing what we do, just adding to our toolbox of what we can do.”

A CrowdStreet spokesperson said the presentation reflected the company's goals in mid-2021.

“CrowdStreet provided technology and administrative services, allowing investors to choose investments for themselves and invest directly with sponsors,” the spokesperson said in a statement. “During that time, CrowdStreet received consistent investor requests for additional services only able to be provided by a licensed securities broker. Understanding the massive commitment necessary to fulfill this request, CrowdStreet began a long journey to implement the significant changes necessary to operate as a FINRA-licensed broker-dealer.”

It was during this period that Nightingale raised $63M via CrowdStreet in two deals. It drew $54M from investors in a bid to acquire the 915K SF Atlanta Financial Center office complex in Buckhead in a campaign that launched in May 2022. That November, it raised roughly $9M to renovate and recapitalize a Miami Beach office building it already owned.

The Atlanta deal was marketed to CrowdStreet customers with an email touting Nightingale's $10B track record, while the listing projected a 28.1% internal rate of return, The Wall Street Journal previously reported.

The funds were deposited directly into an account Schwartz controlled, rather than placed in escrow. When an independent fiduciary took over those accounts last summer, she found Schwartz had drained all but $126K of the investors' money.

FINRA requires brokers to use escrow accounts when placing a securities transaction.

“Had they got the compliance settled up, none of this with Nightingale would have ever happened,” a former CrowdStreet employee who worked on the broker-dealer compliance effort told Bisnow.

The company was intent during that period on bringing bigger sponsors to the platform, three former employees said, and Nightingale had a track record of splashy deals in New York City — as well as a few red flags that gave some investors pause at the time.

“I made so many escalations up to senior management about concerns I've had on the compliance front because I was repeatedly ignored or dismissed,” said the former employee, speaking on the condition of anonymity.

Steen said the company had intended to launch the broker-dealer model and start using escrow accounts in August 2023, but by the spring, investors in the two Nightingale deals were asking for refunds and Schwartz had stopped responding to emails and phone calls. That was when Steen said the firm “decided to accelerate the introduction because we had all of the staff licensed and the technology and the staff in place.”

History Repeats Itself

The Nightingale incident wasn’t the first time a CrowdStreet sponsor misappropriated customers’ investments. 

In 2018, New York-based MG Capital came to CrowdStreet to raise money for its MG Capital Management Residential Fund IV, which it claimed would be invested in “debt-free” residential properties rented to “fair-market corporate tenants,” according to a press release announcing the arrangement. 

“At CrowdStreet, we exclusively work with leading sponsors on commercial real estate offerings that meet our strict marketplace requirements to provide our investors with institutional-quality options,” CrowdStreet Chief Investment Officer Ian Formigle, who at the time was vice president of investments, said in a statement in the September 2018 release. “As a tenured sponsor with over $1B in transactions, we are pleased to partner with MG Capital on their first CrowdStreet marketplace offering.”

Federal investigators found that MG Capital owner Eric Malley had fabricated the firm's track record. There had never been a first or second fund before he launched Fund III in 2014, which raised just $23M of a $525M target. Before founding MG Capital, Malley had worked as a broker and property manager.

Malley pleaded guilty in 2021 to defrauding approximately 335 investors in Fund III and Fund IV of $58M. The SEC fined him $12M, and he was sentenced to five years in prison later that year.

While CrowdStreet was never named by the SEC, the platform was sued by a group of unnamed CrowdStreet investors over the matter. The group was represented by Peiffer Wolf Carr Kane & Conway partner Dan Centner, who confirmed that CrowdStreet settled with investors in the MG Capital fund in arbitration in Oregon.

“The matter was resolved to the mutual satisfaction of all parties,” Centner said. 

He declined to comment further, citing a confidentiality agreement. 

Around the time of Malley's guilty plea was when CrowdStreet started to take steps toward becoming a broker-dealer, but it never announced changes to its due diligence process or criteria.

CrowdStreet's spokesperson declined to comment when asked about the company's response to Malley's fraud. The former CrowdStreet employee who worked on the broker-dealer process said MG Capital and Malley weren't mentioned in company meetings.

CrowdStreet's Exposure

While FINRA’s arbitration process is secretive and not subject to public scrutiny until a final decision has been reached by an arbitration panel, experts tell Bisnow the process acts like a regular trial court case. CrowdStreet is required to answer the claims brought against it, and both parties go through a discovery process to line up evidence. 

Nightingale and Schwartz have been under investigation by the Department of Justice, the FBI and the SEC. CrowdStreet's apparent failure to stop a fox from entering its henhouse could land it in legal peril as well, independent legal experts told Bisnow.

“We think it's very likely that CrowdStreet has potential legal exposure here,” said Scott Silver, a Florida attorney who is the co-chair of the nonprofit American Association for Justice's Securities and Financial Fraud Litigation Group. 

Silver has studied the Nightingale scandal but isn't involved in the bankruptcy or potential litigation. 

CrowdStreet executives have said the company performed several layers of due diligence, like running background checks and asking sponsors for references, on all deals on its platform, including Nightingale's. They added that fraud happens in all corners of the real estate industry.

But those claims do not get CrowdStreet off the hook for losing the funds, experts say.

“That's simple, basic stuff in a real estate deal when the money gets held in escrow until it gets disbursed out to the proper parties,” Silver said. “That they blindly turned the money over to Nightingale could very well be [used to] hold them liable.”

Steven Hurwitz, a director in financial service compliance and regulation at Kroll, told Bisnow that FINRA places heavy scrutiny on broker-dealers in arbitration.

“The goal of FINRA is to protect the investors,” he said. “With all due respect, it’s not to protect the broker-dealers.”

Irwin Stein, a compliance attorney and a former professor at the Golden Gate University Ageno School of Business who has studied the saga of Nightingale and CrowdStreet, said the most likely outcome of the new claim is that CrowdStreet settles with its investors, as it did in the case of MG Capital. 

“They rarely will come down with punitive damages,” said Stein, who estimated he has been involved in more than 2,000 arbitration cases during his 50-year career. “In all the years, I think I won punitive twice.”

While many investors and experts called into question CrowdStreet’s role since the scandal broke in June, the online platform has remained largely untouched by legal action. 

In September, Boca Raton, Florida-based securities law firm Menzer & Hill announced that it had filed FINRA arbitration against CrowdStreet on behalf of investors tied up in the Atlanta Financial Center and Lincoln Place investments.

Menzer & Hill officials didn't return calls seeking comment, and a FINRA spokesperson said the body doesn't comment on or confirm any arbitration cases.

The breadth of CrowdStreet's possible legal exposure is up in the air. In the months since Nightingale’s fraud became public, the fiduciary who took over the accounts put them into bankruptcy, and she and a team of attorneys and restructuring experts negotiated a settlement deal with Schwartz in October. 

Schwartz agreed to pay back the outstanding funds in $3M quarterly installments over the next few years. He agreed to sell his Manhattan penthouse, a mansion in New Jersey and potentially other assets to pay back the total. 

He made his first payment, including a 1% penalty for missing the Jan. 1 deadline, on Jan. 17. If he defaults on the deal, the bankrupt entities could put liens on his other properties, although it is unclear how much equity he still controls.

Many of Nightingale's investments are in older office buildings, and Schwartz has already lost at least two buildings to foreclosure or receivership. He still owes roughly $50M. His next payment is due April 1, with a 10-business-day grace period.

Peiffer Wolf's Centner and Daren A. Luma PLLC were rounding up investors in the fall to possibly sue CrowdStreet but held back after the settlement was announced. Centner said if Schwartz could make good on his agreement, it would be better for the investors. 

But Centner said his firm is monitoring how Schwartz performs moving forward on the installments and could revive a lawsuit or file arbitration. 

“We backed off not because we thought CrowdStreet was the good guy here,” he said. “We’re still monitoring it. We may, in fact, be acting on behalf of our clients if the plan doesn’t come to fruition. At some point, the claims against CrowdStreet will become time-barred. So investors can’t sit around forever.”