It is ideal for situations where there is a time lag between delivery of a promised good or service, and payment.
Doing business using escrow protects sellers and buyers. It makes buyers prove that they have sufficient money on hand to afford the purchase. At the same time, the buyer is assured that the seller will not disappear with the funds without delivering the goods or services as promised.
This facilitates trust in a digital economy: from hiring talent, to buying stuff online, and even for large transactions like real estate purchases, or corporate mergers and acquisitions!
Traditionally, escrow agents like law firms, banks or fintech companies provided this service.
Escrow.com, a San Francisco based company, founded in 1999 announced that it had processed an average of $0.6 million per day in 2021.
Larger players like Alipay, the escrow payments arm of the Chinese e-commerce giant, Alibaba, processed $175 million in average daily transactions in 2016 alone. Freelance platforms like Fiverr and Upwork similarly offer escrow services, with a gross annual transaction volume of over $3 billion collectively.
How are Escrow Smart Contracts Better?
Using smart contracts, Request Finance offers an escrow service that is faster and cheaper - with just a $2 flat fee per payment, paid for by the payer.
The cost of using traditional escrow services is high. Alipay charges merchants a 0.55% fee, while its rival, WeChat Pay, charges 0.1 – 2.0%. For real estate transactions, the average cost of an escrow fee is 1% – 2% of the property’s value. Freelance platforms like Upwork and Fiverr charge anywhere between 5% - 20% of each transaction.
Thanks to Web2 technologies, ATMs replaced bank tellers, then cards replaced cash, only to be now disrupted by mobile payments.
Similarly, Web3 primitives like smart contracts can further automate critical financial services like escrow, which are currently provided by financial intermediaries at high cost.
What Happens If I Have a Dispute?
Business relationships don’t always go as planned. Disputes may arise between the parties - either party may initiate a dispute at any point in time.
Our current approach to dispute resolution is a simple, and cost-effective one. By imposing costs on all parties in the event of a dispute, we aim to incentivize both parties to: (i) reach an amicable settlement, and (ii) only engage with trustworthy counterparts in the first place.
Admittedly, this does not eliminate the potential for abuse. In the future, we may offer arbitral options for dispute resolution. But those are likely to incur additional costs on both disputing parties.
Clients may become unresponsive, or unable to pay for reasons other than bad faith. For example, a company may have ceased operations, leaving no-one to approve the release of the funds to the intended recipient.
In such cases, the intended recipient can initiate an emergency claim on the smart contract. When this happens, after 6 months, they will receive the money without the need for the sender's approval.
However, the sender can reverse the emergency claim at any time before the 6 month period is up. This is to prevent recipients from abusing the feature by initiating frivolous emergency claims, with the intent of claiming the payout without delivering.
Should a sender acting in bad faith attempt to avoid payment by becoming unresponsive, while reversing any emergency claims raised, the recipient can initiate a dispute, leaving the funds frozen in escrow.
Have an interesting use case for escrow payments in crypto?