Cryptocurrency continues to gain traction as a means of payment for goods and services. It recently made its debut appearance in the mortgage industry, as the concept of a “crypto-mortgage” came to life. A Miami-based financial technology firm, Milo, recently announced the issuance of this new digital loan product designed to facilitate the purchase of real estate by crypto investors. According to Milo, its clients can pledge their bitcoin to buy real estate and qualify for a 30-year crypto mortgage with a low interest rate and no down payment. When the mortgage is repaid in full, the bitcoin is returned.
This new digital product is touted as having benefits that include the lack of adverse tax consequences for the crypto investor/borrower. Also, unlike in traditional loans, the mortgage would be issued based on an assessment of crypto wealth instead of a borrower’s tax returns or FICO scores. This makes mortgage loans more accessible to borrowers who would not otherwise have the requisite financial history to qualify for those loans. Obtaining a crypto mortgage is also expected to be faster than getting a conventional loan. These benefits doubtless sound appealing for crypto investors - but there must be consideration of the resulting costs to them – and potentially to the mortgage industry.
Originating mortgages based on crypto wealth raises some concerns. It is well known that the value of cryptocurrency fluctuates wildly. For that reason alone, using bitcoin (or other digital currency) to collateralize a mortgage is risky, even if a lien is also placed on the mortgaged real estate as additional security for the loan. The elimination of traditional underwriting practices, such as verification of income, to evaluate a borrower’s ability to repay the loan has also historically proved to be dangerous . Mortgage loan originators and aggregators know all too well what happened in 2007-2008 when the housing market collapsed due, in large part, to the creation and widespread adoption in prior years of risky loan products requiring little to no documentation of income and assets for borrowers to obtain loans. That financial crisis should be a cautionary tale.
As of now, neither Freddie Mac nor Fannie Mae recognizes cryptocurrency as an eligible source of funds in the loan origination process. In December 2021, Freddie Mac updated its Guide, via Bulletin 2021-36, to address the use of cryptocurrency in mortgage loan originations. The Bulletin provides that income paid to the borrower in cryptocurrency may not be used to qualify for a mortgage. It also states that income types that require evidence of sufficient continuing assets, such as trust income, may not be in the form of cryptocurrency. Cryptocurrency also may not be included in the calculation of a borrower’s assets. The Bulletin further directs that monthly payments on debts secured by cryptocurrency must be included in the borrower’s debt to income ratio and cryptocurrency must be converted to dollars if funds are required for reserves, or to be paid at closing. At the moment, these guidelines make sense. Because of cryptocurrency’s volatility, it is exceedingly difficult for lenders to assess the level of risk in issuing a loan to a borrower for whom bitcoin or other digital currency constitutes a large portion of reported income and/or assets.
Last year, Fannie Mae by contrast began to allow borrowers to use cryptocurrency for their down payment with proper documentation that proves the borrower owned the cryptocurrency. Also, the funds must be deposited into an eligible asset account and stay there for at least two months.
Whether Fannie or Freddie’s current approach proves wiser will be interesting to assess over time. For now, enthusiasm for this milestone in the mortgage loan origination business must be tempered by concern about the potential for significant loss exposure for holders of crypto-mortgage.