Relating to Real Estate

What is Blockchain?

You have probably heard of the digital currency Bitcoin because of its headline-making and extremely volatile valuation against the U.S. dollar in recent years. But what you may not know is how it works or why it’s so groundbreaking. In case you’re not yet a cryptocurrency-trading-millionaire, what makes Bitcoin possible is the revolutionary software technology upon which it is based, known as blockchain. In their book Blockchain Revolution, authors Don and Alex Tapscott summarize blockchain as “an incorruptible digital ledger of economic transactions that can be programmed to record not just financial transactions, but virtually everything of value.”

The blockchain-based idea for Bitcoin was first released in 2008 via a whitepaper, “Bitcoin: A Peer-to-Peer Electronic Cash System,” by an author known as Satoshi Nakamoto. Since then, others have developed Nakamoto’s idea by creating blockchain, the electronic system that ensures the security and integrity of the electronic data that make up Bitcoin and other, similar digital currencies.

Blockchain is what’s known as a “distributed ledger technology” — essentially a big, shared database, constantly reconciled and updated so that every copy of that ledger is the same and is reconciled. These blocks of digital information are not stored in any one location, but rather on millions of computers all at once, which all agree on each block of transactions in the chain. Thus, no single, central location houses the data, and no governmental entity issues the currency, in theory making blockchain a safer way to transact anything of value and less vulnerable to both hacking, manipulation, and the myriad political factors that can influence the relative values of more traditional currencies.

Blockchain technology is consensus-based, so every computer on the blockchain network verifies that each block is valid and accurate before adding it to the chain. Once a transaction has been added, its electronic record becomes an incorruptible, unchangeable, and a public record of that transaction, which exists forever on that block of the chain. This technology also means that it’s transparent — every computer on the network maintains and can see the record of the transaction.

Commercial Real Estate Applications

Why should we, as professionals in the commercial real estate industry and not computer scientists, care about blockchain? We should care because blockchain is one of the next big technology advancements with the potential to have a big impact on commercial real estate, and we can play a role in shaping its future.

In traditional real estate deals, multiple intermediaries — brokers, government offices, title companies, escrow accounts, appraisers, etc. — create friction (and extract payments) that slow the settlement process and increase costs. Blockchain has substantial potential to speed up transactions when buying, selling, and leasing real estate. Moving transactions to the blockchain can create a more efficient and transparent peer-to-peer system that would allow processes like title transfers, lease and sale transactions, equity raises, and debt financings to be completed quickly and safely, often without the need for third-party involvement or verification. 

Does this mean doomsday is coming for many service providers in commercial real estate? Almost certainly not. There will simply be more efficient systems to transact real estate business, and the various roles in a transaction will shift and adapt accordingly.

Three Primary Uses for Blockchain in Real Estate

There are three primary uses for blockchain in commercial real estate, which can often overlap with one another: (1) digital “smart contracts” for lease and sale transactions, (2) deed and title recordation on the blockchain, and (3) tokenized debt and equity. All three of these areas center around the concept that an immutable ledger of data not needing to be held by a trusted third-party, which is accessible to all parties involved (or in some cases, publicly accessible and transparent), adds tremendous value and efficiency to the process by cutting down on unnecessary friction and expenses. It’s important to keep in mind that in all three of these use cases there is still the human element of data input, so blockchain is by no means a silver bullet, and the old adage of “garbage in, garbage out” still rings true.

Smart Contracts

Blockchain allows for the creation and use of “smart contracts,” which execute according to a predetermined, mutually agreed-upon set of parameters and exchange of value. Transactions would be transparent and verifiable, drastically reducing fraud and non-performance. Common tasks like collecting and paying rent, returning security deposits, and managing contract terms would become more streamlined and transparent, which would be especially helpful across international borders.

While it’s currently possible to pay rent, send a security deposit, or buy a property with electronic funds transfers from your computer via a bank transfer, or through PayPal or Venmo from your smartphone, the smart contracts that utilize blockchain and cryptocurrencies are more than just electronic payments. All of the transactional terms of the lease — from the initial security deposit, to maybe a few months of free rent or tenant improvement allowance payments, standard monthly rent payment, annual rent escalations, tenant billing obligations, and the lease termination or renewal and security deposit refunds — can be coded into the crypto token contract to automatically execute when each condition, be it lapse of time, receipt or payment of money, or other conditions, is met. This mechanism can help to prevent fraud on both sides of a transaction and transparently ensure the mutually agreed-upon conditions are fulfilled by both sides. Further, the parties to the transaction do not have to depend on a trusted third party (such as Venmo, PayPal, or a bank) to guarantee and verify the financial transactions, and to provide any necessary proof of funds. While smart contracts have their challenges due to still being very new and evolving, they offer many advantages over existing systems both from a technical standpoint and from a transparency and efficiency standpoint.

Deed and Title on the Blockchain

In 2018, a company called Propy successfully piloted the first deed recorded on the Ethereum blockchain in the state of Vermont. Propy partnered with the state to test a blockchain-based recording system, which has the potential to be significantly more efficient that their current system. The two-page deed looks much like it would have a few years ago, except for a small section on the second page that has a QR code and a long line of characters, reflecting the address on the Ethereum blockchain where the details of that transaction are located. Anyone at any time can pull a copy of the Ethereum blockchain and find the records of the change in property ownership using the address listed on the deed. The record of this transaction is held on both the Ethereum blockchain, a distributed ledger not “owned” by anyone, and by the government of Vermont, as a trusted third party in the United States. However, there are places in the world where perhaps the government may not necessarily be a trusted third party. Thus, having the property transaction records stored on an immutable, public database that is not controlled by the government adds increased security and transparency, while bolstering the stability and protection of private property rights. Having the records stored on the blockchain also allows for significantly simpler and more efficient title searches by anyone anywhere in the world.

Tokenized Debt and Equity

Using the basic premise behind cryptocurrencies (digital assets designed to be used as a cross-border, independent currency in transactions ranging from buying a cup of coffee to buying an office building), blockchain developers soon realized the potential to issue crypto tokens backed by real, actual assets such as real estate, fine jewelry, or works of art. Instead of handing you a piece of paper that states you own a 15% stake in that small, local shopping center, you are issued 15 digital tokens representing your share. Because these digital tokens are on the blockchain, the record of ownership is immutable, transparent, and secure. Should you wish to sell your share of that shopping center, rather than having to find a buyer for your share, hire an attorney, redraw the documents, work with a title company, etc., you could trade your share on a platform like Abstract Tokenization and sell it in ten minutes to a willing buyer. The St. Regis in Aspen, Colorado, successfully sold shares in the resort via the issuance of the Aspen Coin, via which accredited investors could buy digital, tokenized shares totaling $18 million of a trophy resort hotel in an SEC-compliant offering. If the asset is tokenized using a standardized methodology, it could then be tradable across many blockchain platforms, making a traditionally very illiquid asset significantly more liquid for an investor. Platforms like Abstract have also married the traditional crowd-fundraising concept with tokenized assets. This concept allows them to assist in not only potentially raising equity via new markets in smaller chunks, but also to streamline the back-end compliance and reporting while bringing the ability to re-sell the tokenized shares on a more liquid secondary market.

Blockchain is the Future

It’s certainly still the Wild West when it comes to blockchain and the commercial real estate world, but I believe that we will continue to see more growth and development using blockchain in the coming years. We’re some ways off from full enterprise-level adoption, and we don’t know exactly what that will look like when the time comes. It is imperative that we, as practitioners in commercial real estate, work alongside the blockchain entrepreneurs and developers to play a significant role in shaping this next phase of the intersection of technology and commercial real estate. Seek to actively learn about this new technology so that you can participate in its development and application. New technology means opportunities to get in on the ground floor and have an impact on early development, and to drive its adoption in making our industry more liquid and efficient.