Blockchain technology not yet ready for mortgages


Marlin Horst head shot

Proponents pushing blockchain technology to create mortgages are putting the cart before the horse, Toronto corporate lawyer Marlin Horst tells

Horst, a partner with Shibley Righton LLP, says blockchain — best known as the encryption technology behind Bitcoin — is essentially a digital ledger that can be used for many other purposes beyond currency, but he’s wary of a scheme being promoted in Bermuda to create mortgages which investors could then purchase fractionally.

The Financial Post reports that the company would use local financial professionals to run “mortgage hubs” that would evaluate and underwrite them, dividing each property transaction into 100,000 Fractional Mortgage Share (FMS) units that could then be listed on the company’s blockchain-based exchange. Investors would purchase an FMS using blockchain-based tokens and would harvest principal and interest payments from the property’s owner each month.

In some cases the mortgages might also be crowdfunded with smaller fractions for investors but its setup is poorly timed and fraught with potential problems, Horst cautions.

While these mortgages are not available in Canada, promoters of the concept say it could be set up in any jurisdiction which raises a red flag, he says.

“First, the securities commissions in Canada are looking closely at blockchains because they are considered financial instruments and a form of security,” Horst says. “That means there will be regulation. We all remember the subprime mortgage crisis in 2008 and don’t want that happening again.”

Secondly, he says, investors thinking of putting funds into the Bermuda venture should step back and consider the risks.

“I practised law in Bermuda for a few years so I have a handle on how things work there,” Horst says. “The big difference is that there is no title registry. The banks simply take the title document and hold it for the term of the mortgage. They also do quite a bit of work to ensure the person they are issuing a mortgage to actually has a right to the title."

When things go wrong in that country, Horst says, it’s usually a drawn-out court battle because of the lack of a title registry.

“There’s no secured asset underpinning the mortgage just like there were with the bad assets attached to the loans in 2008,” he says. “This is an issue and we need regulation to make the rules clear to everyone on what is acceptable.”

Further, Horst says, the concept being floated would require the investors to mine the blockchain themselves in order to collect their principal and interest repayments. Mining involves adding transactions to the existing blockchain ledger of transactions distributed among all users.

“Blockchain mining requires a fast CPU and higher electricity usage. If these are small investors, you have to wonder whether they will have the resources to carry that out and still see a return,” he says.

The technology still has some flaws, he says, noting cyber currencies and blockchains remain vulnerable to hacking and theft.

While blockchain will likely become part of business and investment strategies at some point, Horst says it’s not yet ready for prime time.

“At worst, it’s a bad idea, and at best, it is an idea whose time has not yet come,” he says.

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