In an effort to prevent loan default, the TrustToken core team and TRU holders work hard to select the most reputable borrowers, vet them deeply alongside a robust community of TRU holders, and ratchet up loan size or length conservatively. Once completing KYC and now also undergoing a financial review, borrowers sign an enforceable loan agreement and have their wallet address whitelisted.
In case of default, TrueFi’s planned response is public and legal. In the case of a confirmed loan default, the TrueFi community will be alerted of the default across all community channels. Simultaneously, legal action will be initiated against the delinquent borrower, aimed at collecting on the loaned capital and interest. The delinquent borrower suffers immediate reputational damage, and possible legal damages for breach of contract, on top of collections action.
To date, prevention of default has been extremely successful: TrueFi has processed almost $100m of uncollateralized loans with prompt repayment and a 0% default rate. Here is how TrueFi approaches prevention of defaults today:
Restricting Borrower Type
At present, TrueFi’s borrowers are among the most public and sizable institutions in crypto.
This is by design: large, long-standing institutional borrowers with public profiles are likely to be the safest and largest borrowers, while simultaneously incurring the greatest reputational cost in case of default.
Though TrueFi is exploring retail and even protocol-to-protocol lending, we believe that institutional borrowers are the safest beachhead market with which to start offering unsecured loans. This is especially true in terms of amount borrowed vs borrower risk: while a single institutional loan on TrueFi starts around $1m at arguably low risk (based on historical repayment rate), it may take dozens or hundreds of retail borrowers to reach this amount of borrowed capital at an acceptable risk profile.
Examples of current borrowers include crypto hedge funds like Alameda Research and exchanges like Poloniex, though we expect other types of institutions and non-crypto players to participate in the medium term.
Borrower Due Diligence & Loan Requirements
Receiving a TrueFi loan demands a number of steps, with unique checks and balances, including a regulatory review, a community feedback phase, signing an enforceable loan agreement, and finally submitting a loan requested that will be voted on by TRU holders. The steps are outlined in detail here and explained below.
KYB Compliance: To become whitelisted as a borrower on TrueFi, every applicant must complete a Know Your Business review, which simultaneously removes the borrower’s veil of anonymity and guarantees the protocol and borrower alike remain compliant. Though KYB is currently carried out by TrustToken, Inc, TrueFi is built to allow other KYB providers to eventually service this step in the onboarding process.
Credit Committee: Upon receiving approval from Compliance, the Borrower will be asked to provide certain diligence items for financial review by TrueFi’s internal Credit Committee. The purpose of this analysis is to ensure the borrower meets the protocol’s minimum financial standards including adequate collateral coverage, asset liquidity and allocation. Additionally, the credit review process includes a high-level wallet analysis and risk profiling with respect to their trading behavior and interaction with third-party protocols. This committee is intended to pave the way for an on-chain credit model and full community governance, which may make the Credit Committee obsolete.
Community Feedback: Once approved by KYB and our Credit Committee, the borrower must persuade the TrueFi community of their creditworthiness with a forum post, in which they outline their business, historical and financial record, and plans for the funds. Community members may ask for more details before submitting a vote in favor or in opposition to whitelisting the new borrower. Borrowers with a majority “Approve” vote move to the next phase.
Enforceable Loan Agreement: As a condition of the Master Loan Agreement that each borrower signs before any loan is approved, the borrower agrees to the settlement of all disputes related to the loan will be settled via binding arbitration governed by the laws of the State of California. In addition, as part of the borrower onboarding process, the Credit Committee assesses the place of incorporation of each borrower and rejects loans to borrowers located in jurisdictions where the Credit Committee believes enforcement of the terms of the Master Loan Agreement would be impossible.
Wallet Whitelist: Once approved by a community vote, the borrower’s wallet is whitelisted to begin making loans. Only one wallet is whitelisted per borrower at a time.
Loan Request Requirements & Vote: At this time, borrowers must place loan requests one at a time, each subject to community approval. To be eligible, the loan must meet the lending pools criteria for size, length, minimum APY, and risk profile — which would be modifiable by governance in future — and also attain enough votes from TRU holders who are in favor of the loan requests.
It’s only after completing all of these steps that a new borrower is allowed to withdraw their requested capital from the lending pool.
A robust credit model is being developed for launch with V3 that will offer voters much more detail on a borrower’s risk profile and creditworthiness, which may allow any redundant elements of the process to be eliminated.
Restricting Loan Scale-Up
TrueFi allows borrowers to increase their loan size in a slow, deliberate fashion, at approximately 1.5x of the previous loan size.
In addition to limiting the growth in size and time, TrueFi also requires borrowers to repay any pre-existing loans before being able to receive the next loan.
Growing the Number of Borrowers & Outstanding Loans:
Finally, TrueFi also reduces concentration risk to the portfolio by steadily increasing the number of borrowers active on the platform. Through borrower diversification, each active loan makes up an ever smaller proportion of the lending pool, meaning any default represents a smaller net loss for the pool.