Unless you’re familiar with “virtual currencies” like Bitcoin, the word blockchain may mean nothing to you.
But in just a few years, blockchain technology and two of its features – distributed ledgers and smart contracts – could revolutionize the mortgage lending industry.
Some experts believe that blockchain could shave weeks – and nearly $1,000 – off the average mortgage transaction.
A report on smart contracts by Capgemini Consulting estimated that “consumers could potentially expect savings of $480 to $960 per loan and banks would be able to cut costs in the range of $3 billion to $11 billion annually by lowering processing costs in the origination process …”
In addition, blockchain tech promises to wipe out most of the paperwork associated with mortgage loans, and should also reduce human errors and the potential for misinformation and fraud.
But what exactly is blockchain?
How will it improve the lending process, and when will it start working its magic?
Originally designed as an accounting method for Bitcoin, blockchain is a fully electronic, decentralized public ledger of transactions.
Using “distributed ledger technology” (DLT), blockchain is mostly used today to verify virtual currency transactions without the need for central recordkeeping.
Whenever a new transaction takes place, a new “block” (record) is added to the ever-growing database (“chain”) in simple, chronological order.
Once added to the blockchain, the record cannot be erased, copied or changed.
In theory, this creates a completely trustworthy and transparent history of every transaction connected to an individual or company.
Because almost any kind of document can be digitized and inserted into a blockchain, a public ledger that includes real estate titles, deeds, etc. could be created for the mortgage industry.
A smart contract is a computer program that controls the transfer of digital currency or assets between the parties to a transaction.
Smart contracts let you trade anything of value (money, property, stocks) in a transparent way while avoiding the need for lawyers and notaries.
The technology has been compared to a vending machine. Instead of paying a lawyer to draw up a contract, smart contract technology lets you “drop a bitcoin into the vending machine (i.e. ledger), and your escrow, driver’s license, or whatever drops into your account.”
And a smart contract doesn’t just spell out the agreement’s terms and conditions. It also automatically enforces them.
Less Time, Less Money
Today, the mortgage process can require up to 60 days from accepted offer to final sale, and can involve numerous financial, legal, government and real estate professionals.
Many of these professionals can add time (and their fees) to the transaction.
Despite old promises about the “paperless office,” the average application now contains 500 pages, a number that has trended up rather than down in recent years, according to a PwC report.
In a blockchain-powered world, however, much of the paperwork that must now be created, exchanged, reviewed and verified could be eliminated.
That would dramatically reduce the amount of time – and money – needed to get you from mortgage application to move-in day.
Because blockchain can execute peer-to-peer transactions instantly, everything from loan applications and title searches to property valuations could be processed in hours or days – not weeks.
In addition to making mortgage transactions faster, blockchain technology could also slash the costs of processing the loans.
Electronic ledgers are much cheaper to maintain than traditional accounting systems, and lenders would pass on some of these savings to consumers.
Just as important, automated DLT systems would produce far fewer errors and also eliminate redundant verification steps.
Currently, much of the world’s money exists as instantly transferrable data “bits” stored on central computers. The speed with which the bits can be exchanged is one reason why bank transactions take less time than they once did.
The promise of blockchain is that, very soon, high-value assets like property deeds and mortgage loans will also exist as instantly verifiable and transferable data bits.
More Transparency, Less Misinformation
Additionally, these bits will exist in a decentralized network that is transparent and tamper-proof.
This should increase security and trust among both consumers and financial professionals.
For example, if an unscrupulous lender tried to charge a higher interest rate to a borrower by presenting false information about the prime rate, access to the blockchain would let the borrower quickly spot the lie.
With distributed ledger technology, the actual data from a specific date will be accessible to all participants in a transaction, instantly exposing misinformation and fraud.
Blockchain’s potential to prevent and detect various types of fraud has already captured the attention of many industries.
Obstacles to Blockchain
Before blockchain can streamline the mortgage process, however, it will have to overcome some major obstacles.
To start, there’s currently no legal or regulatory framework for blockchain applications. Among other things, this means that smart contracts are not yet legally binding.
In addition, the industries that adopt blockchain will have to agree on rules and standards. Also, they will also need to integrate the new technology with their existing accounting systems.
This isn’t something that will happen overnight.
Finally, data privacy laws might slow the adoption of DLT solutions. Not everyone will be delighted by the prospect of having their entire transaction history available for public viewing.
However, once these hurdles have been overcome, cheaper and faster mortgages are likely to become a new reality.