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🎯 Deterministic Liquidation for Locked Bitcoin

dVaults are Taproot-based Bitcoin vaults that enforce deterministic liquidation and non-custodial collateral management. Each vault encodes three spend paths:

  1. Repay - borrower + DCN authorization.
  2. Liquidate - DCN-only authorization liquidate collateral falls below the minimum ratio or credit line is not paid off or extended at end of term.
  3. Transfer - borrower + DCN + third party authorization when borrower requests loan transfer out of Surge Credit Market.
  4. Escape - borrower-only fallback after a time-based lock (censorship safety).

Each path references a pre-committed PSBT template defined at vault creation.

Liquidations are triggered by the Execution State Machine (ESM), which emits deterministic events (LiquidationTriggered) when a vault’s collateral ratio breaches the protocol threshold.

Coordination Layer

A deterministic coordination program (middleware) runs on EVM-compatible infrastructure.

  • Tracks vault collateral, debt, and oracle state.
  • Emits deterministic liquidation instructions (“liquidate 0.02 BTC lot”).
  • Cannot move BTC directly, it only attests valid liquidation conditions to the DCN.
  • Every state change is verifiable and reproducible across members of the DCN.

This middleware acts as an execution oracle that coordinates DCN actions without custodial control or discretionary intervention.

Distributed Custody Network Verification

Each DCN member independently validates before co-signing:

  • Verify that inputs correspond to the correct dVault UTXO and MAST leaf.
  • Ensure outputs are not controlled by DCN members.
  • Confirm input parameters align with pre-committed liquidation rules.
  • Check that oracle data remains within deviation limits.
  • Verify that the escape timelock has not expired. If any rule fails, no signature is produced preventing arbitrary spending.

Liquidation Flow

When CR < MCR (Minimum Collateral Ratio):

  1. The ESM emits a LiquidationTriggered(vaultId) event.
  2. The coordination middleware publishes the corresponding liquidation instruction.
  3. DCN members reconstruct the PSBT based on committed vault parameters.
  4. The DCN signs and broadcasts the transaction to Bitcoin.
  5. Liquidated BTC is routed to the DCN while a dutch auction is started on the EVM layer.
  6. The dutch auction returns stablecoins which replace the principal + debt of the line of credit being liquidated.
  7. Remaining BTC is re-locked into a new dVault UTXO under the same script conditions with an incremented nonce. This process can also enable micro-lot liquidation, minimizing borrower losses and preventing cascading liquidations during volatility.

Delinquency Flow

Just before the time based lock is hit, the ESM checks if the credit line is fully paid off:

  1. The ESM emits a DelinquencyTriggered event.
  2. The coordination middleware publishes the corresponding liquidation instruction.
  3. DCN members reconstruct the PSBT based on committed vault parameters.
  4. The DCN signs and broadcasts the transaction to Bitcoin.
  5. Liquidated BTC is routed to the DCN while a dutch auction is started on the EVM layer.
  6. The dutch auction returns stablecoins which replace the principal + debt of the line of credit being liquidated.
  7. Remaining BTC is re-locked into a new dVault UTXO under the same script conditions with an incremented nonce.

Key Guarantees

  • Non-Custodial: BTC remains locked in Taproot vaults on Bitcoin, only user + DCN or timelock can move funds.
  • Deterministic: All state transitions and PSBTs are reproducible and verifiable across signers.
  • Censorship-Safe: Borrowers can always reclaim funds through the Escape path after timelock expiry.
  • Market Segregated Risk: Liquidation proceeds flow into each market based on where the liquidated credit line came from, reconciling BTC collateral and stablecoin liabilities within the Execution State Machine’s deterministic ledger.