You have most likely used, or heard of, "escrow"- most likely when you were involved in a transaction involving real estate. But what does escrow mean exactly? In reality, it is actually a very simple & straightforward process. In fact, you & everyone around you use it every single day, without even realizing it. Thus, escrow is, arguably one of the most important systems in our daily lives, albeit a very quiet one. In this article, we dive deep into the following keys points:
- The Definition & History of Escrow
- How It's Used in Daily Life
- The Problems With Modern Escrow
- How Bitcoin Will Change Escrow Forever
TL;DR: Modern escrow is slow, expensive, and very formal. Bitcoin allows escrow to be cheaper, faster, and more secure than ever. Given this, it will force the entire industry to rethink what escrow is, and set an entirely new standard that banks have no chance of fighting.
Definition & History
To begin, let us start by defining the actual word - “Escrow” derives from the Middle English word “Escrowl”, which means “scroll”. But if we aren't speaking in linguistic terms, Escrow can be defined very simply: Buyer and seller protection. The actual process is very simple, and can be broken down into 5 easy steps:
- Buyer and seller agree to terms of a deal
- Buyer submits payment to an escrow agent
- The seller delivers goods or services to the buyer while the agent holds the money
- Buyer approves goods or services
- Escrow agent releases payment to the seller
In the event of a dispute, the whole point of escrow is to protect the buyer or seller from scams and fraud and acts as an intermediary between the two to determine whether or not the terms of a deal were fulfilled. The escrow agent makes money on this transaction by charging a small fee to either the buyer, seller or having a 50/50 split charge.
The history of it is actually quite fascinating - in the 1880s, America was growing at a rapid pace, and real estate was one of the hottest commodities at the time. Buyers and sellers started to rely more on third parties to hold not only money, but documents, titles, and deeds as well. Furthermore, most real estate transactions in the mid to late 1800s occurred on paper, and very rarely dealt with large quantities of cash. This is because, in this era, banks kept very small amounts of cash on hand, to protect themselves against robbers - mainly rouge cowboys.
The year was 1895, and a company by the name of Title Insurance & Trust Co. of Los Angeles received an odd request. After ordering a title report on a building site a man was selling, he told clerk Mr. Beynon that he had to leave town for a few days. “He asked us if we would take his executed deed, deliver it to the buyer of his building lot, together with the certificate and send him the $1,000 that was owed him”. California had used, like the rest of the nation at the time, attorneys representing both parties in the transaction with everybody seated around a table in a traditional, formal closing - until now.
Thus, the first-ever escrow transaction in the United States was conducted, and gave birth to an industry. Word spread fast about this amazing new process created by two brothers by the name of Beynon and Elijah Unger, who also became the first two escrow clerks in the nation.
After this, it became an increasingly popular process starting in the early 20th century, specifically post WWI and WWII when soldiers came home to start families, and buy homes. Escrow at this point was the dominant system for buying real estate. Then, in 1974, President Ford passed and signed the Real Estate Settlement Procedures Act (RESPA) into law. This is extremely important because it put certain regulatory functions in the Department of Housing and Urban Development, including creating a standardized closing statement form called the HUD-1 Settlement Statement. The preparation of the HUD-1 became a function of the title agent, closing lawyer, or escrow company. In 1974, less than half of all residential mortgages involved the use of an escrow agent. Fast forward to 2019, forty-five years later, around 98% of residential transactions are completed with the use of an escrow. Because of this, escrow is now both the standard and absolutely necessary both from a legal and consumer standpoint.
Let's go retrace our steps back to Title Insurance & Trust Co. - To start, they were acquired by Chicago Title and Trust Co. in 1991.
“On March 8, 1991, the Ticor Title companies were acquired by Chicago Title and Trust Co. The Ticor Title group is now composed of two companies: Ticor Title Insurance Co. and Ticor Title Guarantee Co. Ticor Title's heritage can be traced to 1893 with the merger of two abstract companies in Los Angeles.”
Shortly after, Fidelity National Title acquired Chicago Title Corp. in 1999.
“FNF, through Micro General, sponsored and financed a new interest transaction intermediary company called Escrow.com. FNF announces its plan to acquire Chicago Title Corp. and its title insurance subsidiaries - Chicago Title, Ticor Title, and Security Union Title, thus creating the world's largest title insurance organization.”
Here is the craziest part: Escrow.com was founded in 1999 by none other than Fidelity National Financial, in response to Bank of America's four million dollar purchase a few years earlier of Loans.com. This means that Escrow.com has a direct tie to the founding of escrow, who would have known. Escrow.com is now owned by Freelancer.com after FNF sold it to them. This is extremely important because not only do they have direct ties to the inventors of escrow, but they have not innovated upon escrow since its founding! Sure, taking escrow to world of web 2.0 via digital fiat could be considered an innovation, but the overall process itself has not changed - It is still fully custodial and slow.
How It's Used in Daily Life
You use escrow every day without realizing it. So does your grandmother, your next door neighbor, and the mailman. The two main uses in daily life are as follows; Digital marketplaces, such as Amazon.com, and your credit card. Amazon has both a buyer and seller, and sometimes orders arrive broken or you got scammed. So what do you do when this does happen? You call Jeff Bezos on his cell phone and tell him "Hey, my order is a box of rocks, I would like my money back!" and sure enough, you get your money back. This is because your money was held in escrow before being released to the seller, and offering you a layer of protection. Same thing with credit cards; Transactions do not truly clear on credit cards, usually until 30-60 days pass.
The reality is that your money does not automatically leave your bank until the bank actually processes the transaction, which takes about 2 weeks. But even then, if you needed to dispute a charge, all you do is call American Express and say "Hey! My stuff from Amazon never arrived, and Bezos is being stingy!" and you get your money back with no problem. Credit cards have six major players involved:
- The cardholder - You
- Merchant - Seller of goods doing business with a point of sale.
- Issuing bank - Your card's bank, and has issued that credit card to you.
- Merchant’s Bank- This is the bank that manages the merchant’s account. Also in charge of authorizing payment requests and forwards.
- Processor - collects information about you and your banks routing information to provide to the card network
- Card Network - MasterCard, Visa, Discover, American Express, etc. They authorize requests to the issuing bank from the merchant bank.
Once again, this is because your money was technically held in escrow until the expiry period to file a dispute expires. There are many more examples of escrow use in daily life, but these two examples alone help you understand the idea at which the scale of which escrow plays into our daily lives.
Yet, even with the amount of technology available, companies like Apple are still prone to the lack of innovation in the escrow industry. For example, Goldman Sachs is facing regulatory probe into credit card practices.
Apple’s partner bank for the Apple Card, Goldman Sachs, has disclosed that it is facing an investigation by the Consumer Financial Protection Bureau. The investigation is focused on Goldman’s credit card account management practices in the United States, of which Apple Card is a major component.
Jack Mallers does a great job at explaining more in-depth about boomers and credit cards at the 2022 Bitcoin conference. I saw it myself, great stuff. However, he and so many other companies are so close yet so far from the necessary key in order to create a real, disputable, Bitcoin credit card... Escrow. I myself have talked to multiple strike developers on the issue. The point being is that despite Strike being an amazing company, they still rely on Visa in order to make bitcoin accessible via a card format, albeit in the form of a debit card. The same can be said for Bolt Card from CoinCorner (which is a charge card, not a debit nor credit card.) which faces the same issue - there is no option to dispute Bitcoin transactions like a credit card, because it fails to understand that escrow and disputably is one of the most important features of a credit card.
Strike and Bolt are not the only ones guilty of this either; it's also companies such as Crypto.com, BlockFi, CashApp, Binance, and many others. Escrow is what these companies are looking for in order to replace the giants such as Visa, BTC to USD conversion aside. It is right in their face and no one seems to grasp the full concept of it and its importance. Because at the end of the day, no matter what your finance or Bitcoin business/startup is, all finance companies are insurance and anti-fraud companies. Because of this, escrow plays a huge role in anti-fraud.
The Problems With Modern Escrow
Now we touch on the real problems of escrow, credit cards aside - Modern escrow has a plethora of problems. For starters, there have been countless stories of escrow agents embezzling, funds being withheld permanently, scams, theft, broker account shortages, and more. This has happened so much, that they have even coined a term for it - calling it Bogus Escrow.
Here is a snippet of an article from the FBI:
Title Company Owner Pleads Guilty to Embezzling Escrow Funds LAS VEGAS, NV—A Utah man who owned a title and escrow company that operated in Nevada, has pleaded guilty to wire fraud for embezzling almost $4 million from company escrow accounts for his own personal use, announced U.S. Attorney Daniel G. Bogden for the District of Nevada. Christopher L. Durling, 49, of Sandy, Utah, pleaded guilty on Wednesday, May 13, 2015, before Senior U.S. District Judge Kent J. Dawson to one count of wire fraud, and is scheduled to be sentenced on Aug. 11 at 9:00 a.m. Durling faces up to 20 years in prison and a $250,000 fine.
This is sadly one of many, many cases where the escrow trustee is a shady individual and ends up using your money for something else, other than keeping it safe. For the following examples and discussion, I will be using Escrow.com as an example, as they are the market leader for escrow for the average person. On top of this, we will to touch on:
- Fully Custodial
- KYC & Formality
- Cost and Limited Access
- Lack of innovation
Speed, or the lack of.
Modern Escrow today is so slow. So slow in fact, I could literally get a package from Aliexpress, from china, delivered across the entire world and arrive at my doorstep faster than the amount of time it takes to process a digital escrow transaction. Heavy emphasis on the digital part of this, because the internet is supposed to enable a fast moving world, yet escrow is the one of many industry dinosaurs we have to account for. Therefore dragging and slowing down countless other industries with it. Escrow.com Takes 3-5 days to process a transaction, after confirmation. One would imagine that, in 2022, this 23 year old market leader would innovate the escrow industry. They have the resources, capital, and brains to do so. Yet, they decide not to.
Fully Custodial - they take hold of your money.
My favorite problem about escrow. For those of you who aren't familiar, in cryptocurrency specifically, there are wallets that are custodial, and non-custodial. Gemini.com does a great job defining the difference:
With a non-custodial wallet, you have sole control of your private keys, which in turn control your cryptocurrency and prove the funds are yours. With a custodial wallet, another party controls your private keys. Most custodial wallets these days are web-based exchange wallets.
Modern escrow could be seen as a custodial service. By definition, they have full control of the direction of where your funds go, and could at any time, decide to revoke access or even embezzle your funds and get involved with the state at any time it likes, for any reason. In the event that a bad actor wanted to influence in which direction the escrow agent sends the money, they could. Escrow.com is fully custodial and still relies on banks to validate and send transactions - the same process they have used since its founding. To ensure your funds are absolutely secure, you should always opt into a service that provides you a non-custodial solution. We will discuss the non-custodial route later on. Furthermore, if you take a look at the escrow.com Trustpilot page, there are a plethora of 1-star review horror stories that are enough to keep me away from the idea of a custodial escrow service. Take a look for yourself.
KYC & Formality.
If you are not familiar, KYC is a practice that can be defined as the following:
KYC guidelines in financial services require that professionals make an effort to verify the identity, suitability, and risks involved with maintaining a business relationship. The procedures fit within the broader scope of a bank's anti-money laundering (AML) policy. KYC processes are also employed by companies of all sizes for the purpose of ensuring their proposed customers, agents, consultants, or distributors are anti-bribery compliant and are actually who they claim to be. Banks, insurers, export creditors, and other financial institutions are increasingly demanding that customers provide detailed due diligence information. Initially, these regulations were imposed only on the financial institutions but now the non-financial industry, fintech, virtual assets dealers, and even non-profit organizations are liable to oblige.
This can also be seen as another layer of control by the state. The argument for KYC is discussed quite often, and I can understand why the majority of users take the side of anti-KYC. If you have ever used Coinbase, you can understand how it feels to jump through multiple hoops, just to send money anywhere and unlock your "account level". Quite frankly, I believe it is a pain in the ass for not only consumers but for developers to implement as well. The argument that is in favor of this method of security says that it will greatly improve security and reduce crimes, but at the end of the day, the state will always overstep its boundaries and abuse this power for data collection and monitoring. This, combined with the fully custodial nature of traditional finance, gives the power to banks to shut down your accounts at any time and lock you out of access to your own funds.
How this relates to escrow - Given the nature of escrow being custodial and heavy regulation, they are required to collect sensitive information by law, due to the need for a money transmitter license. The cost averages about $70,000 per year, per state. In New York, this same license is $2 million per year! There are many more of these types of licenses worldwide. Because of the formality of escrow and the need for KYC by law, this shuts off access to people who either; do not have or want to provide sensitive information to a third party, or are turned off entirely because of the extremely formal nature of escrow - this explains why escrow is most commonly heard in real estate, because buying a house comes with providing such information to the state en masse anyway.
Cost and Limited Access
In the event you wanted to escrow something with a value of $5,000 or less, the fees would be astronomical, which you can see for yourself via the escrow.com fee calculator. Take note of all of the fees they have, the list just goes on. Let's do an example transaction - if I wanted to sell a $5000 domain to someone in Australia via a Credit card (like most normal people), the fees total up to $335.00, or 6.7%. With a bank wire, it's 3.25% + $20. For some perspective, real estate escrow services typically charge 1-2%. Further details of their fee structure is as follows:
I do applaud escrow.com for doing something to lower the barrier of entry to allow anyone to escrow almost anything, albeit limited to just 5 countries with unnecessary and hidden fees. However, what about the rest of the world? Why hasn't escrow.com taken the initiative to make this a worldwide business? I encourage you to play with the Escrow.com fee calculator to see how much they really charge for a transaction.
Lack of innovation
Why would you want to innovate if you are the sole market leader in the industry? The initiative for these bankers to further improve upon a system older than them is almost non-existent. After all, they are making good money and charging their customers' exorbitant fees. The technology we have today is more than enough to improve upon the escrow process, especially with the rise of cryptocurrency, namely Bitcoin. There hasn't even been a cash app equivalent to rival escrow.com - they are still stuck in the era of web 1.0 and are apparently happy staying there. I can think of a wide range of solutions that would eliminate more than half of the fees necessary to conduct business with this website. In fact, since they lack the initiative or brains to do so, here is a list of ideas I hope they steal and implement:
- Use of stablecoins such as Tether to greatly reduce processing time.
- Partnerships with CashApp, Venmo, PayPal, and Zelle to eliminate wire fees.
- Greatly improve their UX / UI.
- Lowering their minimum fee.
- Getting licenses in Europe, Asia, Africa, and South America.
These are just some of the many ideas that I have to greatly improve the modern fiat escrow system. But they won't, I can almost guarantee you. That said, this helps us get to our next point. Now that we have reviewed the definition of escrow, its history, and its problems, let me show you how we can drastically improve this process.
Now, the real question is where does Bitcoin come into play in this argument? How can Bitcoin improve the escrow process of today? The answer - not only does Bitcoin solve almost every frustration that fiat escrow brings, but my team and I have built a working solution that makes the fiat escrow solution look like a dinosaur, and would still look like one - even if they decided today to implement all 5 of the above solutions that I mentioned.
How Bitcoin Will Change Escrow, Forever.
On the first page of the Bitcoin whitepaper, Satoshi Nakamoto makes the following statement:
What is needed is an electronic payment system based on cryptographic proof instead of trust, allowing any two willing parties to transact directly with each other without the need for a trusted third party. Transactions that are computationally impractical to reverse would protect sellers from fraud, and routine escrow mechanisms could easily be implemented to protect buyers. In this paper, we propose a solution to the double-spending problem using a peer-to-peer distributed timestamp server to generate computational proof of the chronological order of transactions.
Not only did Satoshi himself want to make a Bitcoin escrow system, no one to this day has made one. Sure, there are escrow tools that revolve around Bitcoin, I have found plenty. I have not found one business that actually utilizes the technology behind it - they all follow the same rules that fiat escrow follows, which is not the ideal system. My point being is that there is not one Bitcoin equivalent of Escrow.com to rival the Fiat system... until now.
My team and I have been working extremely hard on a solution called LightningEscrow that is going to completely redefine how escrow works, & here is why. (For this comparison, we will use escrow.com again.)
Traditional Fiat Escrow:
- KYC - due to the nature of custody, the law requires this.
- Fully custodial - they have full control of your funds.
- Slow - Takes 3-5 days minimum to process a transaction.
- Unnecessary & hidden fees - $10 wire fee? come on.
- Limited reach - In the event, you wanted to escrow internationally, it is a pain.
- Formality - Limits the amount of industries that could benefit from it, such as gaming.
- No KYC - Since we are non-custodial, we do not need a money transmitter licence
- Non-custodial - Using a 2 of 3 multi-signature contract, we never actually take hold of your funds. (Will write a separate article or whitepaper in the future on how this works)
- It's Fast - Takes ~10 seconds over lightning, and ~10 mins over the base layer process a transaction.
- No Unnecessary & hidden fees - We charge a 1% flat fee. That's it.
- Unlimited reach - Bitcoin has no borders, neither does our service.
- Casual & Accessible - With no minimums required, any industry could use this with ease, without breaking the bank
- Better UX/UI - with an up-to-date design, it is far easier to navigate and use.
Because there are zero banks involved with our escrow process, this eliminates the need for the majority of wait times that are associated with banks, as well as unnecessary fees, and gets around the need for KYC or waiting around for your money to pass through multiple pairs of hands.
Our goal is to launch before the end of the year (Dec 2022) and have a live beta version that you can use. While it's currently still in development, In the very near future, we will provide a world where Bitcoin transactions finally have a layer of security and disputably, much like a credit card. Alongside the website, we will also offer an API to allow any wallet, marketplace, or bank to offer a layer of security for their customers. Have a question? Feel free to reach out to me on twitter.
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