As the cryptocurrency market grows, suggestions for using crypto assets as loan collateral have continued to gain traction. Their high volatility and potential for significant gains prompt using these digital assets as collateral for traditional loans.
The value of the cryptocurrency used determines its importance in the crypto-backed loans space. Also, the digital holdings are held as a guarantee until the loan is repaid. Firms use blockchain technology and smart contracts to facilitate secure and transparent transactions for cryptocurrency-backed loans.
These loan platforms accept digital assets as collateral to secure the loan amount given out. In 2018, Salt Lending, a DeFi lending platform, set a significant milestone by introducing the concept of crypto-backed mortgages.
Borrowers could use their cryptocurrency holdings as collateral for loans through the platform. Salt Lending adjusted its offerings to accommodate these concerns following legal and regulatory challenges.
Forms of Crypto-backed Mortgages
There are several types of crypto-backed mortgages, with the top ones being:
Purchase Mortgages: This type of mortgage is often used in real estate transactions, and it allows borrowers to use cryptocurrency as collateral to secure a loan to purchase a property.
Cash-Out Refinancing: Property owners with existing mortgages usually opt for cash-out refinancing, and they allow property owners to use their cryptocurrency assets as collateral. This arrangement gives them access to funds they can readily utilize for various purposes.
Bridge Loans: Cryptocurrency collateral is handy when borrowers require a bridge loan. This short-term loan helps to bridge the financial gap between purchasing a new property and selling an existing one.
This financing solution is well-secured by cryptocurrency collateral.
How Crypto Mortgage Operates
Accessing crypto-backed mortgages begins when the borrower transfers their cryptocurrency to the lender for security purposes. The lender then determines the maximum loan amount based on the value of the collateral provided.
The cryptocurrency’s suitability is assessed through established interest rates, repayment terms, and loan duration. Following the arrangement on the loan condition, the borrower deposits the agreed-upon amount of digital currency into an escrow account held by a neutral third party.
This intermediary manages funds, assets, and documents on behalf of both parties until the specified terms are met. Borrowers frequently maintain a designated reserve between the value of the collateral and the loan balance to mitigate the impact of market fluctuations.
What Are Crypto-Backed Mortgage Products?
Some of the top crypto-backed mortgage products include:
Collateralized Crypto Loans
This implies using cryptocurrency holdings to secure a loan, with the loan’s value determined by the assessed worth of the provided collateral. Depending on the collateral type, certain crypto-backed loans even allow borrowers to repay the loan amount and interest using cryptocurrency.
It is important to note that in the event of borrower default, the lender has the right to liquidate the collateral.
This concept works on a different premise. Borrowers offer stablecoins as collateral. This arrangement ensures that funds are always available while reducing the volatility commonly associated with traditional crypto investments.
Decentralized Finance (DeFi) Mortgage
DeFi mortgages are facilitated by blockchain technology and smart contracts. They offer a more technologically advanced option.
DeFi protocols run independently on the blockchain, enabling trustless lending and borrowing processes without intermediaries. This approach is exemplified by platforms such as Aave and Compound.
Benefits Of Crypto-Backed Mortgage
Individuals who own cryptocurrencies can leverage the value of their digital assets without having to sell them through crypto-collateralized loans, potentially avoiding capital gains tax implications. This strategy protects their holdings and allows them to invest in real estate and other ventures.
These crypto-backed mortgages serve those excluded from conventional banking channels and promote financial inclusion. Furthermore, they enable borrowers to manage their exposure to cryptocurrencies, potentially protecting them from significant price fluctuations.
Nevertheless, it is worth noting that the volatility in the price of cryptocurrencies can impact the value of the collateral during the loan period.