Monday, 19 March 2018

Could blockchains replace banks in real estate lending?

Real estate deals on a blockchain are becoming real.
The startup Propy recently sold an apartment in the Ukraine through its blockchain, and in the last week of December it began letting Californians buy and sell properties on its blockchain using bitcoin. They will be able to use U.S. dollars next year. It’s also offering other homes including a “Packer House”— a house located next to the Green Bay Packers’ stadium and training field that is draped in team paraphernalia and is available for $1 million.

Other startups, including ShelterZoom and RealBlocks, are offering other takes on the idea of buying and selling real estate on a distributed ledger. ShelterZoom has built an Ethereum-based platform that went live Dec. 14. RealBlocks lets people invest in housing on its blockchain with fiat or digital currency (and starting in February 2018, its own tokens). It has completed seven deals so far.

Distributed-ledger technology — a database that can live in many places at once, where transactions and smart contracts can be executed, theoretically without any need for middlemen — could simplify real estate investment, turning a complicated process into a series of clicks.

At some point in the near future, not only real estate transactions but mortgages themselves may be handled on a blockchain.

Banks will have to adapt.

“I don’t know if this is removing banks from the process — I think it will make them more efficient,” said Eric Piscini, principal, banking and technology consulting at Deloitte. “Maybe they’ll be leaner because they won’t need to have as many people as they used to, to manage those processes.”

What blockchains can do

Theoretically, almost every element of a real estate transaction could be handled on a blockchain.

“When you want to buy a piece of real estate, whether it’s commercial or retail, wherever the current process is very inefficient, which is most places, a blockchain platform can make it better, faster and cheaper,” Piscini said.

Propy, which is based in Menlo Park, Calif., calls itself the Amazon of real estate. Its site lets users search for properties and brokers the way and Trulia do.

It records deals on its blockchain registry, which it hopes will be adopted by many jurisdictions as an official ledger and as a way to issue title deeds online.

Herein is a big promise of blockchain: that it could replace today’s clunky title deed and registry processes, which involve going to a local town hall and getting a clerk to find the right documents.

Yet it will be a challenge to get thousands of local governments, as well as homeowners and real estate investors, to accept a number on a blockchain as the official deed to a property.

RealBlocks lets people invest in rental properties like Section 8 housing over a blockchain.

“Rather than having to set up LLCs and deal with the tax, legal and accounting complexities associated with purchasing real estate, we’re making the process seamless by doing it on the blockchain using tokens,” said Perrin Quarshie, RealBlocks' CEO.

The company can help users find a mortgage through its mortgage brokerage partner First National Financing. It has also partnered with SALT Lending so that after February, participants will be able to take out a loan or line of credit using the tokens they buy from RealBlocks as collateral.

A blockchain combined with smart devices could let real estate investors track the condition of their investments and know, for instance, that equipment is being repaired and replaced on a schedule.

“Almost in real time, you can know if that piece of real estate you invested in is in good condition or not,” Piscini said. “You don’t have to trust a third party for that; you can trust the blockchain.”

A blockchain can also let people who are nonresidents buy real estate in the U.S., which today is difficult.

And it could let more people participate.

“If someone who is managing a property can also be an investor in the property with that mechanism, then they would manage the property better,” Piscini said. “The renter or leaser might be more incentivized to do a good job maintaining the property if they’re also an investor.”

Legal, regulatory, public-sentiment hurdles

For real estate blockchains to work, several things need to happen: Governments, homeowners and investors would have to recognize and accept a blockchain registry. Small town halls would need to become blockchain-ready. Courts would have to accept smart contracts the way they accept paper-based contracts today.

“Blockchain is a very natural database technology to keep records like titles and to make them widely accessible,” said Dror Futter, partner at Rimon Law and a member of its blockchain practice. “The issue is, you need to have the real estate blockchain recognized as a title registry. You can’t have a situation where you have multiple registries.”

Consumers would have to be willing to accept a smart contract as their only way to engage with real estate participants.

“If something goes wrong, who’s picking up the phone?” Piscini said. “If there is a major event, an earthquake, how do you manage the smart contract? At the end of the day, are we willing to trust this? That’s going to be the biggest challenge.”

The tokens many blockchain startups plan to issue to represent real estate assets raise regulatory questions.

“Will those tokens be considered another risk or another type of equity or will they be considered just an investment in real estate?” Piscini said. “I think the jury is out on that.”

In Piscini’s view, the only way to get the entire real estate finance system to accept transactions on a blockchain would be for regulators to mandate its use.

Regulators might do this for three reasons: to make the real estate market more open; to exert control over the real estate market (for instance, to limit a North Korean investor’s U.S. purchases); and to obtain a macroeconomic, real-time view of the real estate market, so they can react immediately.

All of this will take time.

“Blockchain is the internet circa 1993,” Futter said. “The technology is still immature, it’s not user-friendly, there are still issues being identified, and hacks are occurring. It’s a little overhyped in terms of what it can deliver today. But it can do most of these things on a limited basis today.”

Mortgages on a blockchain

Eventually, it is likely that mortgages will be handled as self-executable smart contracts on a blockchain, rather than as paper documents.

“Could you do a mortgage completely by way of smart contract? Yes,” Futter said. “The technology is there today to form a mortgage between two parties. The question will be, from a legal perspective, will it be deemed an enforceable agreement? That’s more a question of evidence than anything else.”

States like California are starting to accept smart contracts as legal evidence, so long term this will not be an obstacle.

Futter believes smart contracts themselves won’t contain every term of a mortgage agreement. They might contain key terms like interest rate, loan amount and duration. But an underlying master agreement would cover all the terms and conditions typical of a mortgage.

A blockchain could also facilitate crowdsourced mortgages. Instead of taking out a $200,000 loan from one lender, a borrower could get $2,000 each from 1,000 investors.

What banks should do now

Blockchain technology will take over the recording and transaction activities banks do today, Piscini said. Therefore, they need to focus on value-added services.

“Now it’s not just lending money, it’s managing property and helping people do a lot of things outside of just getting money to buy real estate,” Piscini said. “So the banks have to reinvent themselves and find new services and solutions.”

Futter suggests that at a minimum, banks should have people following these developments. They could be experimenting with creating records, tracking documentation and verifying transactions on a blockchain.

“The financial crisis showed this recordkeeping aspect is not the biggest strength of a lot of banks,” Futter said. “The blockchain creates a reliable storage mechanism that’s accessible depending on whether you do a public chain or private chain. You can store all the documentation around the mortgage transaction, including the financing, on a blockchain. You could do the mortgage processing automatically going forward, payments could be made and foreclosure would occur automatically —those kinds of things are all doable on the blockchain.”

This is all true for auto lending as well, he noted. It is also true for other types of loans, debt collection and many other related services.

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