We’ve all heard of Bitcoin, Ethereum, Doge, and other cryptocurrencies that are the next “big thing”. With Bitcoin hitting an all-time high of $81,000 earlier this year, many may feel they have already missed the boat. However, cryptocurrencies and blockchain technology is only in its infancy stage when it comes to the impact it could have on everyday society and the practice of law.
What is blockchain technology?
Blockchain is known as the technology behind powering Bitcoin and other cryptocurrencies. What it really is, is a digital, distributed ledger that records and shares information. It is an immutable database, meaning the ledger cannot be deleted, modified, or altered. Each “block” of data contains information on the block before it, forming a chain with each block reinforcing the block previous to it. Blockchains are resistant to modification because the recorded data cannot be retroactively altered without altering all the subsequent blocks. Currently, most cryptocurrencies use blockchain technology to securely record transactions.
How can blockchain technology be applied to real estate?
A new system of registration
Blockchain technology could have an immense impact on real estate in Canada and worldwide, once certain issues and regulatory gaps are addressed. A blockchain ledger could potentially replace the Land Titles and Registry systems currently operating in Canada by securely registering land records, such as titles, mortgages, builders’ liens, etc.
Currently, there is no one universal system for recording the title of property across the world. Even in Canada, there exists the Land Titles or Torrens system, which operates in most provinces, including Alberta, and the Registry of deeds system, which operates in parts of Ontario, Quebec, Newfoundland, and PEI.
The Torrens system creates and maintains a system of registered title certificates, which serve as the indefeasibility of title of the person recorded on the title certificate (the owner). Ownership of property is transferred to a new owner by registration of a transfer of land. Then a new title certificate under the new owner’s name is issued. By contrast, the deeds system requires a registration of deeds. The government does not guarantee ownership and protection under this system. Purchasers (or more accurately, their lawyers) are required to search historical documents to determine whether the sellers are providing a good “root of title”, meaning they must trace the proprietorship of the deed back through previous owners, to determine its veracity.
These systems rely on manually and accurately recording each transfer of property, mortgage, or other encumbrances. Such systems can also be susceptible to fraud. In 2019, accounting firm MNP found that mortgage fraud was one of the top seven types of fraud to occur in Canada.
Blockchain technology could eliminate fraud from the current Land Titles system in Alberta. By using an immutable blockchain ledger instead, each transaction can then be accurately recorded and updated with uninterrupted protection.
Tokenization of real estate interests
Blockchain would allow for tokenization of interests in real estate, particularly in commercial settings. Commercial real estate often requires greater investments from purchasers. Tokenization of real estate would allow for a buyer to purchase a small share of a larger property. Instead of selling one building for $10 million, the building can be tokenized into 10,000 shares of $1,000 each. This would allow a larger number of people to be able to invest in commercial real estate, reducing the current barriers to commercial investing, as well as allow for quicker raising of capital for large commercial builds.
The drawback of using blockchain to tokenize property is that due to the volatility of cryptocurrencies and possibility of real-time valuation of property, real estate transactions powered by blockchain can result in a windfall for one party and a disadvantage to the other party just before the transaction closes. Such risk would need to be allocated by agreement.
Blockchain technology would also allow for “smart contracts”, which are programmed to automatically execute certain actions without additional human action required. In a real estate setting, a smart contract may be used to automatically transfer the purchase price of a property from the buyer to the seller on a specified date or other execution conditions. Blockchain technology would then ensure that the transaction is publicly available and protected from hacking. Smart contracts have the potential to save both parties time and money, making real estate transactions more efficient.
The issues that must be addressed before smart contracts are widely available is that certain obligations normally found in traditional real estate transactions cannot be codified on a blockchain. Smart contracts currently do not allow for more advanced or subjective conditions. Currently, only compliance of provisions that can be objectively determined to have been breached can be enforced through smart contracts.
What obstacles currently exist preventing blockchain technology from being implemented in real estate law?
In Canada, cryptocurrency is regulated under securities laws as a way of protecting the public. The taxation of cryptocurrencies remains uncertain with little legislative oversight. The Canada Revenue Agency does not consider cryptocurrency to be legal tender, instead, it is treated as a digital asset to be used in a barter transaction and taxed accordingly. The CRA has issued high-level opinions on certain cryptocurrencies and their potential tax implications. Because of its general newness, there currently exists a large regulatory gap that is constantly evolving and must be addressed before cryptocurrencies and blockchain technology can be widely used. Though there is no law against using cryptocurrencies to purchase property in Canada, there is a lack of regulatory protection for buyers and sellers.
In addition to the drawbacks raised above, cryptocurrencies cannot currently be held in trust accounts, which are heavily regulated and widely used by real estate lawyers in any given real estate transaction. Using cryptocurrency to purchase a property today would require the cryptocurrency to be held outside of the lawyer’s trust account, thereby considerably increasing the risk to the client.