Babylon Opens the Door to Aave: Can You Borrow Stablecoins by Directly Collateralizing Bitcoin?

Author: Kuli, TechFlow

TechFlow Summary:

On November 9, Aave DAO passed the Babylon proposal with 100% approval. Native Bitcoin can be pledged to borrow stablecoins on Aave V4 without wrapping, bridging, or third-party custody, with an LTV ratio set at 78%. The proposal also outlines revenue sharing: Aave DAO will receive the first $500,000 annually before sharing the excess with Babylon, and allocate 4% to 7% for repurchasing AAVE and BABY.

Bitcoin is entering Ethereum’s largest lending market in its native form.

According to an official announcement from Babylon on X on November 9, Aave DAO passed the ARFC proposal with 100% approval, agreeing to integrate native Bitcoin into Aave V4 as collateral via Babylon’s "Trustless Bitcoin Vault" (TBV). Bitcoin holders can lock their BTC while retaining control of their private keys to borrow assets such as USDT and USDC. The proposal will now move to the AIP phase, which involves the final on-chain execution vote. Mainnet launch is targeted for late 2026, with initial participation and scale capped before being gradually expanded.

First submitted in May and passing the community temperature check in June with 299,743 AAVE votes in favor and zero against, this proposal has been under review since mid-year.

Aave founder Stani Kulechov publicly supported the proposal on the forum on October 14, the day it was officially posted. According to prior statistics by TechFlow, 73 out of 74 binary Snapshot proposals for Aave this year have been approved.

Bitcoin Enters in Native Form for the First Time, Collateral Terms Benchmark WBTC

According to the proposal published on the Aave governance forum, borrowers lock BTC into a Taproot vault on the Bitcoin blockchain, keeping the coins in their own addresses. A non-transferable ledger token matching the quantity of locked Bitcoin will be minted on Ethereum to serve as collateral proof in Aave V4.

In the parameters provided by risk management firm LlamaRisk, native BTC carries an LTV of 78% with a maximum liquidation bonus of 5.55%. According to PANews, the LTV and borrowing rates for this line are comparable to wrapped assets like WBTC and cbBTC in Aave V4’s core markets.

This arrangement fills a long-standing custody gap in Bitcoin lending. According to Cointelegraph, Aave’s current Bitcoin collateral primarily consists of wrapped assets like WBTC and cbBTC, where the underlying Bitcoin must be held by custodians, exposing users to counterparty risk. According to prior reports from TechFlow, Aave has already deployed dedicated markets for LBTC, making this Babylon proposal the first solution tailored for unwrapped native Bitcoin.

Cost advantages are also notable. Citing Alea Research, Babylon projects annual borrowing costs for the vault between 3% and 5%, compared to the common 9% to 16% range on centralized lending platforms. By the end of the third quarter, approximately 40,481 BTC were staked on Babylon, remaining entirely on the Bitcoin chain via scripts.

Revenue Sharing Sets $500,000 Threshold, Buyback Ratio Up to 7%

The proposal features a tiered revenue distribution model.

According to the original proposal, only two revenue streams qualify for sharing: the liquidity fees collected by Aave from borrowers’ interest on the Babylon line, and fees generated during liquidations. The first $500,000 annually goes entirely to Aave DAO. For the tier between $500,000 and $2 million, Aave DAO receives 78%, Babylon takes 18%, and 4% is allocated for buybacks. This ratio increases progressively in subsequent tiers: for amounts exceeding $6 million, Aave DAO gets 61.5%, Babylon gets 31.5%, and the buyback ratio rises to 7%.

Buyback funds will purchase tokens on the open market, with 85% going to AAVE and 15% to BABY. The purchased tokens will be split equally between Aave DAO and the Babylon Foundation.

Research firm Alea Research has calculated: if annual revenue for this line reaches $10 million, Aave DAO would receive approximately $6.92 million, Babylon around $2.52 million, with roughly $560,000 allocated for buybacks ($84,000 of which would be used to buy BABY). Alea Research notes this would mark the first value channel for BABY derived directly from borrower interest.

However, viewed alongside the current market caps of both tokens, this buyback volume remains limited. A proposal passed by the Aave governance forum in March reduced AAVE’s own annual buyback budget from $50 million to $30 million. Meanwhile, according to Alea Research, BABY sees daily emissions of approximately 1.58 million tokens, which translates to roughly $7 million in new token value annually based on Q3 prices.

Initial Credit Line Around $21 Million, Liquidations Still Rely on WBTC

Whether this initiative can scale successfully is the next hurdle the proposal must clear.

According to the proposal text, the initial credit limit granted to the Babylon line by Aave’s core pools is: $8 million each for USDT and USDC, $2 million each for USDG and RLUSD, and $1 million for GHO, totaling approximately $21 million. The maximum collateral cap for native BTC is 300 units. Limits will increase with demand but require explicit Aave DAO approval each time. Statistics from Alea Research show total effective loans across Aave V4 reached approximately $310 million in September.

The liquidation mechanism is another focal point. Since Bitcoin remains on the Bitcoin blockchain, the proposal introduces a dedicated liquidation settlement module: liquidators use WBTC to purchase the seized vaults, after which arbitrageurs redeem the BTC on the Bitcoin chain. This means that while the collateralization step removes reliance on custodians, the liquidation process still depends on custodial assets like WBTC.

Regarding risk control authority, the original proposal states that emergency pauses are managed by a 3-of-5 multi-sig wallet comprising Aave Labs, LlamaRisk, Babylon, and others, with no timelock for pausing or resuming operations. During a pause, repayments and liquidations are also halted. The multi-sig holds no authority to transfer users' Bitcoin.

Two upcoming dates warrant attention. According to Alea Research, Babylon plans to submit an adjustment plan for the BABY tokenomics to governance by the end of November, aiming to direct more newly issued tokens toward vault operations. Meanwhile, the staking of approximately 2,999 BTC held by Gate is set to expire around November 30; if not renewed, Babylon’s staking volume will adjust accordingly.

Before mainnet launch, whether the BABY tokenomics adjustment materializes will determine how much genuine buyback activity this native Bitcoin lending business ultimately drives for both tokens.