Tokenization
Tokenization refers to the registration of an asset and its rights on an authentication token. This authentication token (token) is a device (physical or digital) necessary for a user to access an application. A service a network system in a more secure way 1–3. It can be conceived as a unique key offering unique access to its holder. Tokens are intended to allow the management and exchange of assets and rights on a blockchain, instantly and securely (to better understand the Blockchain.
If we are talking about the tokenization of real estate. It is because it involves redefining the relationship between the different actors but also their practices by reducing transaction times. Automating value transfers eliminating the need for a trusted third party by reducing management costs or by facilitating the digitization of contracts 2.
For example if we consider a property with a value of 1 million euros. We can subdivide this value into 1000 tokens with a nominal value of 1000 euros each. In 2019 a Paris villa worth 6.5 million euros was tokenized and staked on the Ethereum blockchain. The asset was then divided into 1 million coins of 6.5 euros 4 each.
To Define the Value of a Real Estate Token, Two Signals Can Be Taken into Account:
The estimated value of the underlying real estate asset. Which changes according to the behavior of the real estate market.
The estimated value of the real estate token. Which could depend on the supply and demand of the real estate token in question.
This choice is up to the issuer of the token who can choose to let the exchange prices of the token determine. its price, or set it a priori. It can also integrate different functions that will be included in the smart contract on which it is based.
The Security Token Offering
This token sale is intended to be carried out through a Security Token Offering (STO) process. STOs must comply with very strict regulations that include thorough investigation of token listing data sharing and investor onboarding procedures. Security tokens are typically issued by an entity, company or individual and give the token holder specified rights such as ownership. Repayment of a specific amount of money or the right to a share of future profits.
The advantages of STOs are those of the blockchain, i.e. in theory, of:
- Ensure the credibility of the projects due to the strict control upstream of the project. By its existence on the blockchain the title becomes non-falsifiable, the history of its exchanges is recorded in an immutable register.
- Improving the traditional title exchange system by providing faster and lower cost service. This system makes it possible to free oneself from constraints such as long and time-consuming contractual processes (signature of the sales agreement expiry of the withdrawal period, fulfillment of the condition precedent signature of the deed of sale, etc.). And the intervention of third parties (notary, real estate agent, administration, etc.). Here, the transferability of the token is ensured and secured on a blockchain between two agents.
- Liberate the market and open it for example. To investors outside the local market or to small investors as in the case of Paris with tokens at 6.5 euros.
- Increase liquidity. A token can be traded at any time with a price set in real time by indicators such as the supply/demand ratio thus reflecting the market dynamically.
- Programming smart contracts. Depending on the programming when it is issued a token can represent different functions such as a voting right a means of payment a dividend or a title deed etc. In addition it is not limited to a single function, which makes it interesting from a condominium perspective. for example.
- All transactions can be verified on platforms like digiishares.io.
A thoughtful project
In existing regulatory frameworks the creation ownership. And transfer of security tokens are generally regulated in the same way as traditional securities. Therefore similar governance and regulatory considerations should be taken into account.
Changes in practices
“Instead of carrying out an expensive IPO a real estate fund or any company owning buildings. Will be able to issue a digital investment token [security token, editor’s note]. Directly without resorting to investment banks brokers or clearing organizations » CEO Token Estate 9.
The tokenization of real estate through the use of the blockchain is bound to change the practices of managers. We can take the example of co-ownership or fractional ownership. Although the concept is not new the digital register of members is now integrated into a blockchain making the update automatic. Almost instantaneous and the register inviolable.
Each transaction is encrypted and recorded on the blockchain. Sensitive data is traceable and secured by smart contracts. These different points are dependent on the protocol associated with the token. This implies a good knowledge of the blockchain ecosystem in the context of real estate for owners or managers. In order to select the most appropriate option for the model they want to adopt.
Following tokenization smart contracts registered on the blockchain allow automated management of securities transactions. Including the distribution of rents. This is the disintermediation effect. In other words due to smart contracts all logical rules (e.g., if x then y) no longer require human intervention.
Technology enables secure management of fractional ownership as a digital record and investment management. Through automated compliance protocols. In addition all transactions are becoming digital. For token owners the management of the asset is left by default to the tokenization agency. Load management or maintenance for example are automatically managed by the smart contract without the intervention of an intermediary.
Some illustrations
Traditionally if several people decide to buy a property in common. They must first find the property agree on the purchase and offer capital to acquire it. Then comes the issue of credit management. The more people in this process the more complex it becomes. There may be payment defaults by one of the parties that the others will have to cover. There is therefore a duty of responsibility between the co-purchasers.
In the context of tokenization everything is automated. First the company performing the tokenization has the role of finding the remaining investors. Since the process is pre-certified as safe by regulation (STO) an investor does not have to worry about the identity of other investors.
For a token everyone will have the same rights but also the same obligations. If one of them fails to fulfill his obligations it is up to the tokenization company to compel an investor to fulfill his duties (e.g. legal proceedings). According to article 211-2 of the General Regulations of the AMF with some exceptions offers of financial securities not exceeding 8 million euros in the European Union are considered to be outside the “prospectus”.
Tokenization Applied to Real Estate
Based on this mechanism, a use case of tokenization applied to real estate can be illustrated through coworking spaces. Crowdfunded coworking spaces could see the light of day integrating co-ownership as added value to the community of coworkers.
Instead of renting a space, the coworkers would own a property token, in which the enjoyment of a space is registered. The more this community will grow, the more the co-owners will be rewarded by the growth in the value of the property (either by the value of the asset, or by the value of the token, or both).
We can also take the example of votes in general meetings of co-ownership. A token offers voting rights that can be issued in advance of a general meeting. Since the vote is registered on the blockchain, it cannot be modified and can be audited by the voter and/or the general meeting according to the initial programming.
The use of smart contracts
The use of smart contracts can also respond to the management of an event (Figure 5). Once the token is associated with a contract registered in a blockchain, the obligations and rights of all stakeholders as well as the contract become immutable. If an incident occurs, once the case has been noted by the expert, the execution of the clauses of the smart contract is automatic since the criteria for activating the clause are justified.
The owner company and the actor have no action to take. The rules written into the contract will automatically activate and continue to operate under this new paradigm. This will continue until the situation is resolved as justified in the contract for a return to the previous contractual state, also automatically.
Limits and perspectives to be discussed
Looking at the theoretical advantages, the enthusiasm for these tokens can be explained by two facts: firstly, the global real estate market is valued at around 280 trillion dollars, giving it a place among the largest markets in the world. Second, it is one of the most illiquid and potentially opaque markets. Tokenization can be seen as a disruption of this second point.
Of course, these advantages can be discussed. Increasing liquidity can lead to more volatility. Then, if theoretically the value of the real estate token should reflect the value on the real estate market, it is common to observe a decorrelation between the price of a property and its underlying value due to speculation (which is not only true for crypto assets). The practice remains to this day particularly framed and the current stage of development implies controlled liquidity 10.
Tokenization Presupposes
For real estate players, tokenization presupposes, with regard to the processes discussed, an adaptation in practices. For example, real estate transactions involve a high cost 11. Tokenization secures exchanges and makes it possible to eliminate certain notarial acts, which could reduce transaction costs 12. Players such as JPMorgan and HSBC already rely on these technologies to support certain transactions, particularly in the exchange of documents and their security.
Another usefulness of tokenization for property management companies is to optimize the management of their property portfolios. Again, this optimization is based on the characteristics of the blockchain in terms of secure data sharing but also a rationalization of the collection and payment of rents. This evolution presupposes a technical understanding as well as the definition of standards to automate the management of heterogeneous assets.
Some advantages also come up against current country regulations. Exchanging real estate tokens without the intervention of a third party seems difficult since only notaries have the right to write and modify the register of title deeds. On the other hand, securities movement registers or bond registers can be digitized.
Real Estate Tokens
This tokenization approach also falls within European regulation 2020/1503 which entered into force in November 2021. From this date, the approval of a crowdfunding service provider (PSFP) is mandatory for any activity related to crowdfunding. Once approval has been obtained, the tokenization company (the provider) may offer crowdfunding activities in the form of securities subscription called “crowdquity” and/or interest-bearing loans “crowdlending”. These tokens can then be certified or not as financial securities 15. In the United States, the first “blockchain cadastre” even saw the light of day in 2019.
To go further, it is important to mention that tokenization is one of the examples of the use of blockchain in the real estate sector but other uses can be made of it. This can allow the management of access to the building or the elevator according to its identity, the management of the storage, consumption and distribution of the energy produced.
The management of subcontracting and supply chains can also be considered on the basis of smart contacts linked to tokens. Transaction terms can be clearly set out by digitizing end-to-end processes and making them more easily auditable. However, this visibility depends on the establishment of specific conditions and therefore the anticipation of a maximum of situations that can make negotiations and interactions between actors complicated.
Tokenization has the potential
Tokenization has the potential to change the way people invest in real estate around the world. However, it is subject to a complex set of legal and practical issues, each of which can have a strong impact on the success or failure of a project.
More broadly by the size of the market the necessary exchanges, the quantity of documents and the needs in terms of transparency and security. The real estate sector seems to be in line with the possibilities offered by the blockchain.
From real estate management practices including the distribution of co-ownership charges, works. Votes and decisions in co-ownership meetings, management of rents or conflicts, to investment and promotion activities.
Tokenization offers possibilities to rethink the practices of the real estate sector functionally in the first place. But potentially structurally according to the uses which will be made of them.
In conclusion tokenization and more broadly the blockchain. Open as many possibilities of automation security fluidity, transparency for the real estate sector as questions whose uses will draw the answers.
