Liquidation mechanics: what actually happens when your loan gets called

Liquidation is the moment a Bitcoin-backed loan converts from a credit arrangement into a sale of your collateral. The lender takes control of part or all of your Bitcoin and sells it to bring the loan-to-value ratio back to a safe level, or to close out the loan entirely.

It is the mechanism that protects the lender against your default. It is also the single most important risk in a Bitcoin-backed loan, and the dimension most often misunderstood by borrowers.

Two things make Bitcoin liquidations different from traditional securities-backed liquidations. First, Bitcoin’s volatility is much higher than the stocks and bonds that back margin loans, which means liquidation thresholds are crossed more easily and more often. Second, liquidations happen during stress events, when price discovery deteriorates and the price the lender actually receives for your Bitcoin is often materially worse than the price you’d see on a normal trading screen.

A borrower who understands the cascade design before signing the loan has a meaningful advantage. A borrower who learns about it during a liquidation does not.

The loan-to-value ratio is the dollar value of your loan divided by the dollar value of your collateral. If you borrow $50,000 against $100,000 worth of Bitcoin, your starting LTV is 50%.

As Bitcoin’s price moves, the collateral value moves with it. Your loan balance does not. So the LTV ratio moves inversely to price: when Bitcoin falls, your LTV rises.

The math is unforgiving in one direction. A 25% Bitcoin drawdown takes a 50% LTV loan to 66.7% LTV. A 33% drawdown takes it to 75% LTV. A 50% drawdown takes it to 100% LTV, at which point the collateral and loan are roughly equal and the lender has no margin for further decline.

This is why starting LTV matters so much. A loan at 30% starting LTV survives a 50% Bitcoin drawdown with the LTV at 60%, still well below most liquidation thresholds. A loan at 50% starting LTV does not survive the same drawdown. Same Bitcoin holder, same drawdown, completely different outcome based on a single decision made at loan origination.

How frequently lenders recalculate LTV also matters. Some lenders use a continuous spot price feed; others use a volume-weighted average over a longer window; others use a manual daily mark. The lender’s method determines how quickly your LTV reflects a fast-moving price. During Bitcoin’s most volatile moves, the difference between a continuous feed and a daily mark can be the difference between liquidation and survival.

The four-stage cascade is the standard pattern

Well-designed Bitcoin-backed loans follow a four-stage cascade as LTV rises:

Stage 1: Warning. A notification at a moderate LTV threshold (typically 60-70%), informing the borrower that LTV is elevated but no immediate action is required. This is a courtesy notice. No fees, no penalties, no operational changes.

Stage 2: Margin call. A formal notification at a higher LTV threshold (typically 70-80%) requiring the borrower to take action within a defined grace period. The required action is one of three: post additional collateral, pay down principal, or accept partial liquidation. The grace period varies by lender, typically 24 to 72 hours.

Stage 3: Grace period expiration. If the borrower has not acted by the end of the grace period, the lender begins the liquidation process. This stage exists to give the borrower time to respond; lenders that skip it are operating without a meaningful protection layer for the borrower.

Stage 4: Liquidation. The lender sells enough collateral to restore the LTV to a target level (typically the original starting LTV or the warning threshold). Depending on the cascade design, this can be a single market sale, a series of smaller sells, or a transfer of collateral to a recovery process.

The specific thresholds vary by lender. Unchained’s cascade differs from Ledn’s, which differs from Bitfinex Borrow’s, which differs from Salt’s. The point is not the exact numbers, but whether the lender publishes them at all. A lender that publishes its full cascade in plain language is giving you the information you need to manage the loan. A lender that does not is reserving the right to interpret the cascade operationally during a stress event.

Time between thresholds is the borrower’s actual protection

The thresholds themselves matter less than the time you have between them. A 70% margin call with a 72-hour grace period gives a borrower a meaningful chance to add collateral, pay down principal, or arrange a partial liquidation on their own terms. A 70% margin call with instant liquidation gives the borrower nothing.

During Bitcoin’s most violent moves, prices have dropped 20% or more in under an hour. A cascade with no grace period can move from warning to full liquidation within a single trading day, sometimes within a single hour. A cascade with a 48-hour grace period gives the borrower enough time to react even to fast moves, because most large drawdowns include recovery bounces that allow the borrower to act if they are watching.

The lenders who survived 2022 generally had longer grace periods and clearer notification structures than the lenders who did not. This is not the only variable that mattered, but it is one of the variables that mattered most for borrower outcomes specifically.

Ask your lender directly: from warning to forced liquidation, how much time do I have? If the answer is less than 24 hours, treat the loan as a high-volatility position requiring active management. If the answer is more than 48 hours, you have operational room to manage the position responsibly.

Liquidation execution often produces worse prices than the screen shows

The price you see on a Bitcoin trading screen is the last trade price, often on a venue with shallow liquidity for large orders. The price a lender actually receives when liquidating a meaningful amount of Bitcoin during a stress event is often materially worse.

Three factors compound this:

Slippage. A large market order moves the price against itself. A $1 million Bitcoin sell order during normal conditions might execute within 0.1% of the displayed price. The same order during a fast drawdown might execute 2-5% below the displayed price, or worse.

Venue fragmentation. Bitcoin trades on dozens of exchanges with different liquidity profiles. A lender liquidating through one venue may receive a worse price than the displayed price on another. Multi-venue execution can mitigate this, but most lenders use a single primary venue for operational simplicity.

Cascade effects. During major drawdowns, multiple lenders liquidate simultaneously, creating sell pressure that compounds the price decline. The May 2022 LUNA collapse and the subsequent crypto credit unwind included several days where lender liquidations contributed materially to the price moves they were responding to.

The practical implication: when a lender’s cascade calls for selling your Bitcoin to restore a 70% LTV, the actual sale may execute at a price that produces a higher post-liquidation LTV than the target. Some cascade designs anticipate this by liquidating more than the math requires, building in a slippage buffer. Others do not, which can result in a second liquidation following shortly after the first.

Partial liquidation is better than full liquidation, when offered

Some lenders structure liquidations as partial: enough collateral is sold to restore the LTV to the target threshold, and the remaining Bitcoin and the remaining loan principal stay in place. The borrower keeps their position, with a reduced collateral and proportionally lower loan balance.

Other lenders structure liquidations as full: the entire collateral is sold and the loan is closed regardless of how much was needed to satisfy the loan-to-value math. The borrower receives any residual value after the loan and fees are repaid.

Partial liquidation is significantly better for a borrower who intends to maintain their Bitcoin position. It preserves the remaining position through the drawdown, allowing the borrower to recover when prices stabilize. Full liquidation forces the borrower to repurchase Bitcoin if they want to maintain exposure, paying transaction fees and accepting whatever price the market has reached.

When evaluating a lender, ask which liquidation structure their cascade uses. Some lenders offer borrower choice at the margin call stage: pay down to a partial liquidation, or accept full closeout. That choice is worth having. A lender that offers only full liquidation is making an operational simplicity decision that costs you in a drawdown.

What 2022 showed about cascade design

The 2022 crypto credit cycle included multiple failed lenders. Several distinct cascade failure patterns emerged, each instructive for a Bitcoin borrower evaluating a current lender.

The May 2022 LUNA collapse triggered the first significant Bitcoin liquidation cascade of the cycle. Some lenders with algorithmic liquidation systems executed cascading sells during the price drop, contributing to the broader market move. Borrowers on those platforms saw their collateral liquidated at prices substantially below the trigger threshold, in some cases producing residual debt balances rather than residual collateral.

In June 2022, Celsius Network paused withdrawals citing market conditions. Customers learned that their Bitcoin had been rehypothecated and that their accounts were unsecured claims rather than segregated collateral. The cascade lesson is upstream of liquidation: if the lender doesn’t actually hold your collateral as segregated, the cascade discussion is academic.

In July 2022, Voyager Digital filed for bankruptcy following the collapse of Three Arrows Capital, one of its largest counterparties. The cascade failure was institutional rather than operational: Voyager’s exposure to a single counterparty’s positions caused its own collateral pool to deteriorate beyond what its cascade was designed to handle.

In November 2022, BlockFi filed for bankruptcy following FTX exposure. Similar to Voyager, the failure was counterparty risk crystallizing into platform insolvency rather than a cascade design failure per se.

The shared lesson across these events: cascade design matters, but it is conditional on the lender actually holding your collateral and remaining solvent. A perfectly designed cascade on an insolvent platform protects no one. The first Loans guide on this site explains the upstream questions (rehypothecation, custody, jurisdiction) that determine whether the cascade questions even matter. This guide assumes those upstream questions have been answered satisfactorily.

For the lenders that survived 2022 with their cascades intact, the borrower outcomes were materially better. Borrowers with positions at lenders that maintained operations through the cycle generally retained their collateral, navigated margin calls successfully, or accepted partial liquidations on their own terms. The cascade design did its job.

Liquidation is not a tail risk for a Bitcoin-backed loan. It is the expected outcome of a sufficiently large Bitcoin drawdown, and Bitcoin drawdowns of 30-50% have occurred multiple times in the asset’s history. A borrower who has not pre-decided what they will do at each stage of their lender’s cascade is operating without a plan.

The pre-decided plan should answer:

• At what LTV will I receive my lender’s first warning? What will I do at that point? (Realistic answer: monitor, prepare action steps, do not yet act.)
• At what LTV will the margin call arrive? How long is the grace period? What action will I take in that window? (The honest answer is one of: add collateral, pay down principal, or accept partial liquidation. Pick which in advance.)
• If I cannot act in the grace period, what is the cascade outcome? Partial liquidation to the target threshold? Full closeout? Residual debt possibility?
• What price slippage should I expect during a fast move? How does that affect the cascade math?

Use the Loan Calculator to model cascade outcomes for your specific position across the lenders we cover. The calculator surfaces published cascade details for each lender, including LTV thresholds and grace period structure. What it cannot do is replace the pre-decided plan, which is yours to make.

The discipline closer is short:

The time to understand a cascade is before you sign the loan. The time to write your action plan for each stage is before the warning arrives. By the time you’re reading a margin call notification, the position is already deteriorating and your options are narrower than they were the day before. A borrower with a pre-decided plan for each cascade stage has agency through the drawdown. A borrower without one has only what the lender decides to give them.