House prices and volume of transactions are cyclical, with millions of transactions worth trillions of USD processed per annum globally. Settlement times can be a lengthy and arduous process. Blockchain technology can expedite the settlement period from months to minutes, using NFTs.

This article will take a look at NFTs within the real estate market to see how this novel tech can solve some of the industry challenges.

Article Outline:

• Industry Background
• Industry Challenges & Blockchain/NFT Solutions
• Real World Case Studies
• Risk Considerations
• Closing Remarks

Industry Background

According to Savills last valuation, the global real estate property valuation was around $326.5T in 2020. The real estate market can be broken up into three segments:

Residential real estate makes up most of the market, accounting for 79% of the industry. Commercial and industrial real estate make up the balance with a rough even split at circa 10% each.

Focusing on the largest segment - according to Core Logic there were 7 million residential units sold in 2021, totalling $2.8T of transaction volume.

The OECD has released a price index which shows the growth of the real estate price index between 2015 and 2022. The average global increase is 53% (index of 153) over this seven year period, with Turkey having the highest index of 282 and Saudi Arabia with the lowest of 86 (2015 base index is 100). This indicates that the growth in house prices has predominantly been up only for most nations. Saudi Arabia prices have historically fallen due to an exodus of ex pats.

We can see from the data that house prices are increasing in congruence with transaction volume - price agnostic to an extent. People need somewhere to live after all. What about the demographics of homeowners?

Unsurprisingly, homeowners tend to be older which may have implications for adoption of new technology. Perhaps the elder generation are more comfortable transacting in traditional ways. This differs from one country to the next but in general holds true. In the UK, 35% of homeowners are aged 65 or above, while very few under 24 year old adults own a home. This is largely driven by the inability to purchase a house until later on in life once sufficient earning capacity has been reached or inheritance passed down from relatives. It is estimated that the number of homeowners aged 25-34 have halved since 1980 further illustrating the the difficulties in getting on the property ladder.

There are now discussions of mortgages that could be in excess of 50 years. The mortgage and equity in the property are then passed down to benefactors as part of the inheritance process.

Many homeowners are aware of the lengthy settlement process for the relatively illiquid asset class - certainly a lot of room for optimization. Those that are not yet homeowners may be struggling to get their foot on the property ladder. Blockchain, and NFTs specifically, can provide a solution for both problems. Imagine a world where buying and selling your home becomes a seamless process and takes a fraction of the time.

Baring the above statistics in mind, let’s take a look at some of the challenges facing the real estate sector and how blockchain and NFTs can provide a solution.

Industry Challenges & Blockchain/NFT Solutions

Unregistered Property

Typically most land or property is registered with the appropriate land registry. in the UK this is the HM Land Registry. The title will be one of the first documents that a solicitor looks for when transacting, given the requirement for proof of ownership. If a property has been owned for a significant amount of time or the authority has misplaced the record then this can create a challenge. For more historic buildings the deeds are often fragile, delicate and sometimes illegible.

Blockchain provides an immutable solution to this. An authority could set up a permissioned blockchain and register the property as an NFT. The population of the NFT collection would scale with the number of properties on chain. The properties for each NFT could reflect the key features of the home.

Alternatively, a property could be reflected as an NFT collection. Each item in the collection could be a part of the property, fault or aspect with the properties of each NFT indicating the quality of that part of the property. The meta data of this NFT could then be updated depending on resolved problems - an immutable record containing the history of the property. This would also reduce costs of any surveys required given the historical challenges being explicit and transparent for all prospective buyers to see.

Lengthy Settlement Periods

The “chain” can be a stressful process with a “domino effect” if this is broken. Many people are reliant on a quick transaction and if a buyer pulls out then the funds may not be available for the purchase of another property, causing delays. Seasonality also exacerbates this issue. Winter and holiday seasons are typically poor periods for transactions to take place, so delays that push it into these time periods could see transactions finalized after these periods have finished.

Representing the title of a property as an NFT can alleviate some of the settlement delays for a few reasons:

1/ More efficient verification process of the transacting parties, reduced solicitor involvement and surveying fees, leading to a reduction in costs. The NFT provides certification of product ownership with a unique immutable signature.

2/ Reliable data of the properties in the chain can help when selecting a buyer as to the likelihood of their sale falling through. This provides transparency over the execution risk of the sale.

Unaffordable Properties - Fractional Ownership

Properties are becoming astronomically expensive, with the average property price to median earnings ratios at an all time high:

With sole ownership of a property becoming unattainable for many, the ability to fractionally own a property through an NFT collection is becoming a reality. Many Decentralized Autonomous Organizations (“DAO”) were set up in 2021 to own fractions of expensive NFTs, like Cryptopunks or BAYC. This can be done with any asset - creating a digital representation of the asset on chain, as an NFT collection. The owner of an NFT owns a fraction of the real world asset. For rental properties the income could be received into the DAO treasury and distributed to NFT holders using cryptocurrency.

The closest we have in existing markets is a real estate investment trust (“REITS”). The advantage of using NFTs is that it is all automated, less manual interaction effectively providing a more optimal structure. Alternatively NFTs can be the underlying assets invested in by the REIT. There are many angles that can be taken in terms of real estate investment vehicles that include NFTs.

Unattainable Mortgages

Obtaining a mortgage can be an arduous and drawn-out process.

NFTs that represent a digital version of a real world asset can be used as collateral to automate the lending process. There are cryptocurrency lending platforms that offer loans based on crypto assets held in the wallet. Similar platforms can be developed for NFTs where lenders would receive repayments using blockchain, depending on how much they had lent. Buyers can then borrow against the NFT using decentralized finance (DeFi) or traditional finance (TradFi) products on the blockchain. Stablecoins have the greatest potential in this regard, given the value peg to fiat currency.

The drawback may be that there is less flexibility if payments are not met given the automated nature of smart contract functionality. Although, there could have potential for divestment of the property to cover the any shortfalls of the repayments, thus improving liquidity and enabling a rebalance of equity ownership in the property for the lending protocol.

Opaque Property Valuations

Guide prices can be varied and relatively subjective. The data points used to establish fair value may not come from reliable sources.

Having the property represented in digital form as an NFT can enable a global open order book and transparent list of historical transactions. This data can be better analyzed to calculate the fair value of the property depending on seasonality, geographical location and several other aspects that are stored on chain. While there is data available, the sources may not be as reliable compared to the data stored on chain and verified by qualified individuals with accurate time stamps.

International transactions will be easier with a single global order book or using crypto currencies that span national borders. If the on/off ramps for crypto are better regulated, centralized exchanges or marketplaces can perform KYC procedures to satisfy local money laundering requirements.

Government Seized Assets

One should never underestimate the power of governments and regulatory authorities. Ultimately blockchain is a technology that has many empowering use cases, but authorities have the ability to heavily sanction its use, although permanently preventing its application or use is extremely difficult.

In developing countries political turmoil can be rife which leads to new authorities entering power. Property can be seized and repurposed, leaving many innocent owners with nothing and forced to leave.

Blockchain is a decentralized tech that spans the borders of nation states. A centralized authority would need to collaborate with all nations to be able to shut it down. This provides the immutable property to restore historical archives for as long as the last node powers the network. If that dictator or power is then overthrown, a record exists that indicates who was the rightful owner prior to this. A decision can then be made, based on verifiable data, as to what can be done with the property.

Property Fraud

Property fraud is rife and on the rise, particularly after the Pandemic when transactions and meetings are more frequently performed virtually. In the UK alone:

This suggests that fraud actually committed was significantly higher than the £3.5m payout.

Blockchain and NFTs can help with the verification process, providing an immutable historical record of the transfer of title deeds in digital form. Any suspicious activity on a permissioned blockchain could be flagged by the appropriate authority to enable a proper course of due diligence to be performed on those higher risk assets/properties. This provides a level of comfort over and above the existing assurance available.

Cyber Attacks

Cyber attacks on centralized government authorities are becoming more frequent. Systems are shut down, compromized and records are at risk of being tampered with. A recent example from a local government authority in the UK is as follows:

Blockchain based records help prevent the effectiveness of cyber attacks like this occurring. Depending on how decentralized the chain is will dictate its security, the wider distribution of validators on the network, the more secure.

Seasonality

Builders and the construction industry are adversely impacted by seasonality. Winter months tend to have less construction activity or project work available due to adverse weather conditions.

Building in royalties (via smart contract functionality) on secondary sales of properties, and their digital title, can offer an additional revenue stream that provides a more steady flow of funds in those periods with less project work. Alternatively this form of tech can be built in to provide a percentage to those involved in the design process such as architects and engineers.

The process may incentivize better buildings, with those being more durable lasting longer and potentially a perpetual form of secondary sales revenue. Or this may help increase productivity of builders to meet the growing demand of properties to meet population.

Real World Case Studies

The real estate adoption of blockchain is relatively well progressed compared to other industries. There have been live property NFT transactions on live marketplaces with permissioned blockchains trialled already for government land registries. Let’s take a look at where the industry is in this adoption process.

1/ Propy

Propy is an NFT marketplace specializing in property.

Michael Arrington listed an apartment as an NFT in May 2021, through the real estate platform. He had purchased the same property by using Ethereum smart contracts in 2017.

2/ Prometheus

Prometheus, completed the sale of two luxury homes in Portugal through cryptocurrency (ADA). The transaction was able to comply with local KYC laws.

3/ Fine & Country

Fine & Country have brought to market a substantial property known as Hampton Hall, a £29 million luxury mansion in Surrey, where in addition to the sale of the physical property the developer has also offered the buyer rights of first refusal on an NFT containing the copyrighted blueprint and a virtual version of the mansion.

4/ Land Registry

The Land Registry piloted its first blockchain transaction in 2019, by running a previously completed sale through their blockchain prototype. Through the assistance of digital identify provider Yoti - Buyer and Seller identities were confirmed via mobile interface. Once each action had completed the application automatically informed the next party it was their turn to act. The demonstration only took 10 minutes.

5/ REDSWAN.IO

Redswan.io is a Commercial Real Estate (“CRE”) tokenized marketplace. It enables investors to purchase part of a commercial real estate property with as little as $1k via their tokenized marketplace offerings. Example investment interfaces are:

Risks Considerations

We have focused on the opportunities and solutions, but this doesn’t come without challenges and risks. The following are several headwinds that may slow the rate of adoption:

• There is currently insufficient education on the new technology. Legal counsel with experience in blockchain technology will be required to finalize settlements, albeit with lesser involvement due to automation efficiencies. Companies may need to up skill their staff on the various Web3.0 applications and protocols before mass adoption can occur.
• Online banking was a lengthy process to on board the masses, particularly the older generation. This will likely see a similar trend with the adoption of this next iteration of the internet. While Web2.0 online banking took in excess of a decade to bring into fruition, Web3.0 may take an additional 5-10 years although may be faster to adopt given a greater number of people are now computer literate. It depends on the infrastructure being built and how developers create a seamless transition between the two phases of the web.
  • Infrastructure for real estate companies, secondary market places, stakeholder interfaces will all need to be properly built to facilitate a smooth transition to adoption.
  • Commercial real estate is primarily owned by those from older generations. So until this transfers to the next generation it could take longer than expected to be adopted.
• Blockchain technology disruption will dis-intermediate many large Web2.0 companies if they do not adapt. They therefore have a vested interest in delaying the adoption of the tech until they have a strategy in place to ensure they remain at the forefront of their competition.
• A robust legal framework to cover this new tech is not yet established, with primitive regulatory guidance available. Those who adopt the technology early will benefit from first mover advantage, enhanced data but may be hindered by ambiguous regulatory frameworks and thus heightened legal costs. For instance, there may be limited guidance regarding smart contract failure and parties suffering financial loss.
• Will a property NFT be valued separately from the physical property with the intrinsic value being the proof of ownership - separate from just representing the asset on chain? For instance those properties sold with an NFT (containing full transaction history and details) could be valued at a premium compared to those without. Each NFT will have its own contractual terms, properties and utility within the context of real estate. There would need to be clarity over what exactly the purchase of the property NFT means between the two transacting parties.

Closing Remarks

The real estate industry will benefit from the successful implementation of the new tech, but may take time to build the necessary infrastructure for the masses to adopt.

There have been trials, from land registry authorities to initial property NFT sales made, but it will still take time until this becomes the status quo. The demographic of homeowners is tilted towards the older ages and are likely the main transacting parties that form a bias against rapid adoption. However, it’s only a matter of time before it is adopted, similar to past technological innovation.

Nonetheless, it’s clear that the sheer volume of real estate transactions and increasing prices indicates a market that needs technological advancement to reduce escalating costs incurred from manual settlements. Blockchain and NFTs provide this solution.

At OriginsNFT we leverage data-driven decision making, educational resources, and proprietary analytics to remain ahead of the curve with respect to blockchain tech and specifically NFTs. To find out more, please visit our website or Twitter.

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