4. Liquidation

Liquidation is a process that occurs when a borrower's Parch factor goes below 1 due to their collateral value not properly covering their loan/debt value. This might happen when the collateral decreases in value or the borrowed debt increases in value against each other. This collateral vs loan value ratio is shown in the Parch factor.

In a liquidation, up to 50% of a borrower’s debt is repaid and that value + liquidation fee is taken from the collateral available, so after a liquidation that amount liquidated from your debt is repaid.

How much is the liquidation penalty?

The liquidation penalty is the difference between the minimum required carbon that needs to be sold to cover the position, the left-over amount. This is because carbon tokens cannot be fractionalised, each represents 1tCO2 carbon credit on the Verra or Gold Standard registry.

Example:

Bob deposits 5 ACC and borrows 20 USDC.

If Bob’s Parch Factor drops below 1 his loan will be eligible for liquidation.

A liquidator function can repay up to 50% of a single borrowed amount = 10 USDC.

In return, the liquidator function can claim any remaining value from the sale of the minimum ACC required to cover the 10 USDC. This stems from the fact that ACC cannot be fractionalised below 1 token. In this example with Bill, if ACC has a price of $8 then 2 ACC will be sold in order to cover 50% of Bill’s 20 USDC loan. The sale of the 2 ACC ($16) would cover Bill’s $10 liquidation, the remaining $6 would go to the liquidator function. All fee’s earnt by the liquidator function are paid out to CO2Fi holders.

How can I avoid getting liquidated?

To avoid liquidation you can raise your Parch factor by depositing more Carbon assets or repaying part of your loan. By default, repayments increase your Parch factor more than deposits. Also, it's important to monitor your Parch factor and keep it high and dry to avoid a liquidation. Keeping your Parch factor over 2, for example, gives you more of a margin to avoid a liquidation.

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