The Risks and Benefits of Cryptocurrency in Real Estate Transactions
As the cryptocurrency trend continues, buyers in real estate transactions have begun to express interest in financing their purchases using digital currencies like Bitcoin. Before agreeing to accept cryptocurrency as payment in these transactions, sellers should apprise themselves of the benefits of accepting digital currency as payment as well as the substantial risks involved.
By Aaron Swerdlow, Esq. of Glaser Weil LLP
Real estate transactions using cryptocurrency operate similarly to normal transactions
Cryptocurrency allows parties to transfer of large sums of money with relatively low fees and little interference from third parties. Bitcoin, the most popular form of cryptocurrency in real estate transactions, is an open-source digital currency that allows its users to avoid the need for banks by directly processing payments on its peer-to-peer exchange system.
From a technical standpoint, processing a real estate transaction with Bitcoin functions similarly to an all-cash purchase, except that instead of paying the seller in cash, the buyer transfers bitcoins from his digital wallet to the seller’s digital wallet. The entire process of transferring the bitcoins can be completed in as quickly as 10 minutes. If the seller does not wish to accept payment in this form, the bitcoins can be converted to cash at the time of purchase using a service like BitPay. Transactions where the cryptocurrency is converted to cash at the time of purchase are usually treated as regular cash transactions by title and escrow companies.
Using cryptocurrency allows for quicker payment processing and blockchain recording
The main benefit of using cryptocurrency in real estate transactions is the quick processing time. Without needing to rely the banking system, payment can be processed by the seller in as quickly as 10 minutes after the appropriate contracts have been negotiated and signed. The short processing time reduces headaches for both buyers and sellers. Additionally, processing payments outside the banking system offers shortcuts for buyers drawing funds from multiple sources or international accounts.
Some buyers and sellers also believe cryptocurrency transactions present a more seamless and secure method of recording and transferring title to property through the use of blockchain technology. A blockchain is a digitized public ledger used for keeping track of cryptocurrency transactions. Verification and record-keeping of transactions is performed by the blockchain itself. Using blockchain in real estate transactions can expedite title recording and reduce title disputes, due to blockchain’s accessibility and accuracy.
Supporters of blockchain are taking action for widespread use of the technology in real estate transactions. In South Burlington, Vermont, a pilot project for using blockchain to record real estate transactions is already underway. Propy, the San Francisco based startup supplying the software for the project’s blockchain-enabled smart contracts, announced the first official recording of a real estate deed on blockchain in March. Further, Vermont and Arizona have both enacted legislation allowing for the limited use of blockchain in certain aspects of real estate transactions and to prove property ownership. Though most jurisdictions still require the involvement of traditional financial institutions in real estate transactions, blockchain is gaining traction.
Accepting cryptocurrency exposes sellers to risks involving fraud, de-valuation of digital currency, and title issues
Sellers should be wary when agreeing to accept cryptocurrencies in real estate transactions since digital currencies are not adequately regulated and are subject to hacking and theft. Further, encryption in cryptocurrencies makes it nearly impossible for sellers to discern the true source of payment. This is especially problematic given the popularity of cryptocurrency as a vehicle for money laundering. Without the regulation of the banking system, sellers accepting cryptocurrency are susceptible to fraudulent or illegal transfers from buyers. To avoid these risks, sellers accepting cryptocurrency should be overly cautious and extensively verify potential buyers. Though cryptocurrency has recently been the subject of extensive regulation designed to reduce fraud, sellers must continue to exercise caution until comprehensive and reliable regulations have been implemented.
The volatile nature of cryptocurrency also presents risks for sellers. Since the monetary value of a cryptocurrency is constantly changing with the market, difficulties arise when the value fluctuates between the time of negotiating a sale contract and closing. If the value of the cryptocurrency drops after the contract has been signed but before closing, the seller stands to lose money on the transaction, whereas if the value of the cryptocurrency increases between the contract signing and closing, the buyer is incentivized to walk away from the deal. To prematurely resolve any issues resulting from these fluctuations, parties to cryptocurrency transactions should be sure to include a certain purchase price in U.S. dollars and a defined process for transmitting payment within the sale contract. The parties can also avoid difficulties by executing a futures contract with an investment bank to lock the value of the cryptocurrency at the time the sale contract is executed, avoiding the risk of unforeseen fluctuations in the time before closing.
Using cryptocurrency is also difficult since most companies involved in typical real estate transactions are unable to process deals using digital currency due to unfamiliarity with the technology. In transactions where the cryptocurrency is not converted to cash before transfer to the seller, the parties might have trouble with peculiars of the transaction such as title insurance, transfer taxes, title and lien searches, attorneys’ fees, assessors’ fees, appraisal fees, brokerage commissions, and existing mortgages on the property. Further, for sellers who accept digital currency without requiring it first be converted to cash, the seller may be subject to a substantial capital gains tax diluting the value of the sale. Since the U.S. government recognizes cryptocurrency as property, not currency, all transactions using cryptocurrency must be reported when filing taxes.
As further regulation increases the legitimacy of cryptocurrency, the benefits of using digital currencies like Bitcoin to finance real estate transactions will likely interest prospective buyers. Before agreeing to accept cryptocurrency in exchange for real property, sellers must be fully aware of the risks involved and exercise caution when negotiating with buyers.
Aaron B. Swerdlow, an attorney in the Los Angeles office of Glaser Weil LLP, where his practices focuses on the transactional business needs of emerging technology, e-commerce, financial and real estate companies. He can be reached at email@example.com.