The ultimate guide to understanding how blockchain is transforming the future of real estate.
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The blockchain genie came out of the bottle in 2008 with its first application in the revolutionary bitcoin currency outlined in Satoshi's white-paper.
Since then, the application of blockchain has been disrupting many industries - with the biggest industry - the US$327 trillion real estate market - seeing major development.
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A blockchain is a list of records, called blocks, that are securely linked together using cryptography (communication techniques derived from math).
There are two primary benefits of blockchain technology:
To understand why this is important, we first need to understand where real estate is today - with significant intermediaries keeping records, and slow transactions driving low liquidity.
In this perfect match of improving record keeping and making transactions faster, blockchain is having different impacts across industries, markets, transactions, and assets.
The residential real estate sector has seen the most adoption driven by lower transaction values and less stakeholders involved in a typical process - with a blockchain based transaction possible with only two parties and relatively low risk.
Many crypto mortgage lenders began entering the housing market in 2020 with loan underwriting based on a borrower’s crypto wealth and the value of the property they are hoping to buy as opposed to traditional FICO-based measurements.
Likewise, the commercial real estate industry is now seeing adoption as stakeholders (predominantly institutions) get more comfortable with blockchain based transactions and currencies.
There are many participants in the market including investors, brokers, agents, and builders. Investors have seen the fastest adoption driven by the need for faster transactions, while some brokers have been hesitant given it removes the role of intermediaries.
One of the key use cases of applying blockchain to the real estate market has been through escrow settlement. Escrow includes fees paid directly to an escrow company, real estate attorney or title company to conduct the closing of the real estate transaction and distribute funds to the third parties.
Through the use of a smart contract and a reliable oracle (a party or parties that provide approval between the blockchain and the real world), these professional services can be codified - decreasing costs and settlement times.
Traditional settlement often involves many government agencies, audits of historic records, and reviews by third parties bringing a need for:
Real estate transactions moving on the blockchain has been a major area of innovation solving these items, and are likely to disrupt every step of the process.
Enabling a more efficient processing of financing and payments was one of the key blockchain opportunities outlined by the Deloitte Center of Financial Services.
They found that in 25% of transactions, title professionals need to take extraordinary action to fix problems that could impact the buyers’ ownership, and estimate nearly $1 billion is spent annually on title fraud resolutions.
But there is no need for these costs.
Transactions can be sequenced in a highly structured and transparent manner, and underlying ownership titles represented as non-fungible tokens (NFT) can be released to the buyer directly.
It is likely that standardized smart contracts for real estate transactions will evolve in time, and agents, buyers and sellers will trust the execution process.
From equity in single family homes to debt on solar power stations, different real estate assets have different use cases and underlying demand for different audiences.
Through the creation of digital assets on the blockchain, tokenization, and fractional ownership are increasing investor standardization of access of hard to obtain assets.
Over time, blockchain adoption in real estate will have a broader impact through public utility services such as smart parking, waste management, and energy billing, and enable cities to be funded and supported more transparently.
There are three foundational use cases of blockchain technology on real estate.
Let’s dive into each.
Owning real estate can often be a clunky experience, requiring the organization of debt, equity, third parties reviews, and closing procedures.
Many of these are important roles, however the underlying ownership settlement and record keeping has been a significant application of blockchain in real estate. This has been through tokenization.
Tokenization is the process of creating digital assets, or tokens, to represent fractional ownership of an asset. Tokenization improves capital formation by allowing smaller investors to pool capital to invest in larger projects - and enables sponsors to raise capital from a larger investor pool.
This has been disruptive to both real estate equity and debt markets as the underlying interests that we once siloed in share certificates in filing cabinets, are being tradable financial products on the blockchain.
Smart contracts are stored computer programs on the blockchain which automatically execute, control, or document relevant events and actions.
The use of software to replace humans has been a multi-decade thematic, however software on the blockchain has a significant advantage in that it's public and transparent, and doesn’t rely on the trust of a third party.
This has led to the creation of many innovative blockchain based products including lending and insurance which is only recently beginning to be applied to real estate.
As an example, smart contracts providing residential mortgage products are revolutionizing lending on the blockchain, and dis-intermediating loan officers and other intermediaries.
The way they work is a borrower deposits their cryptocurrency into a smart contract with a lender, from which a lender provides a loan to fund the purchase of the use. This avoids the purchasing having to sell their cryptocurrency and trigger a capital gains event.
The principal function of the smart contract is that if the collateral changes in value to hit certain thresholds, the collateral is immediately sold and the lender repaid.
The ability to efficiently and transparently record transactions is relevant to all industries, but the stakes are very high in real estate given the underlying value and durability of the asset through centuries.
In many countries in the world, land titles are still maintained on paper and are the cause of many conflicts.
The Republic of Georgia was the first country to apply blockchain technology to this problem with the National Agency of the Public Registry (NAPR) currently using a blockchain-based land titling system to facilitate a number of services.
The land titling system allows the public to verify the ownership of a property deed without fear of manipulation and citizens can verify the ownership of a land title from their smartphone, reducing the risk of fraud.
A similar lack of transparency exists in the most sophisticated real estate developments in the world such as the tracking of maintenance and repairs - with invoices and notes maintained in siloed and hard to decipher storage systems.
By having all real estate transactions stored on the blockchain, this provides significant advantages in the maintenance of recording keeping over the real estate’s life and property ownership changes.
Cryptocurrency is another application of the blockchain for the advancement of money. The two main cryptocurrencies are Bitcoin and Ethereum, which are powered by blockchain technology.
The intersection of crypto (i.e. blockchain-based money) and real estate has seen significant innovation in recent years as real estate is generally capital intensive and requires the pooling of money from many different parties.
This can broadly be split into the formation of capital and the distribution of income.
Similar to crowdfunding, tokenization today has improved capital formation by allowing smaller crypto investors to pool capital to invest in larger projects. This turns real estate into a financial product by making them digital assets on the blockchain.
Capital formation can also now be done through a variety of cryptocurrencies and even through loans backed by cryptocurrency
Income producing real estate, such as multifamily apartments or industrial buildings, generate income for their equity and debt holders.
Cryptocurrency has provided a far more efficient distribution mechanism for these payments from the assets by using the new financial highway of stablecoins and other cryptocurrencies to move payments faster and more efficiently around the world.
Education, inertia, and regulation are the biggest obstacles to mainstream adoption of blockchain technology in real estate.
The internet was invented in 1983 but did not reach mainstream adoption until 15 years later in the late 1990s, when enough individuals became educated about its benefits and new tooling was able to be adopted.
Blockchain technology is following a similar path - having been introduced in October 2008 and growing adoption throughout the economy.
Similar to the internet, there have been hype cycles which have seen boom and busts in sentiment; the initial coin offering craze of 2017 and secondly at the end of 2020 driven by the significant growth in decentralized finance applications.
Through both these cycles, more people become educated about the technology and the industry continues leading to increased understanding and confidence in blockchain transactions, and more innovation and capital in the market.
Despite this, inertia of existing practice and procedures has limited rapid adoption. Humans naturally avoid change, and with real estate predominantly held by risk-avoiding institutions - it makes sense real estate would be a slow industry to change.
Lastly, given real estate and related financial products are heavily regulated, blockchain in real estate also requires a conducive regulatory environment.
Expanding SEC comfort with tokenized securities and improving regulatory clarity that enable greater access for tokenized securities will be a big step forward
While the bricks and mortar of real estate itself is unlikely to change - blockchain development and applications in the real estate industry are only accelerating.
Over the next five years we will see even more use cases evolve to deliver more value and better interactions in real estate including:
The Ethereum network has been the main blockchain that's been used for these applications of blockchain in real estate. While the technology for broad improvements in the industry exists today, the network is only 55% completed according to its founder Vitalik Buterin.
It’s hard to predict the timing and end state of blockchain in real estate, but we do know the development of the industry is moving forward and developing as fast as ever.
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