Babylon proposes native Bitcoin borrowing on Aave V4

Two new Aave V4 Spokes are at the heart of Babylon Labs’ proposal to let users borrow against native Bitcoin. The plan would let borrowers seek stablecoins while their BTC stays locked on Bitcoin, and it now awaits Aave governance decisions. In an Aave governance proposal dated October 14, Babylon requests activation of native BTC as collateral through its Trustless Bitcoin Vaults protocol.

How would the Bitcoin collateral work?

A borrower would lock BTC in a Taproot output on the Bitcoin network, then use the resulting vault as collateral through an Aave adapter. A Taproot output is a Bitcoin transaction output with spending rules encoded in a script.

The BTC would not be wrapped or bridged, and no custodian would hold it, according to the proposal. Aave V4 accepts ERC-20 collateral, so the integration would create a transfer-restricted token as an internal accounting record for the locked BTC; users could not hold or trade it.

Babylon’s integration documentation says the record tracks the vault’s BTC one-for-one and is created when a vault is activated. The proposal describes a proof and challenge process for redemption: after a borrower repays or withdraws eligible collateral, BTC can be claimed to an authorized Bitcoin address. Settlement takes multiple days because of the challenge window.

What would borrowers and liquidators use?

The Babylon Spoke would be the lending market for positions backed only by native BTC, drawing assets from an Aave V4 Hub. The proposal says the first use case is borrowing stablecoins, with available borrowable assets and risk settings to be set by Aave governance.

A second market, the BTC Vault Swap Spoke, is designed to handle liquidation. Because a liquidated vault takes time to redeem on Bitcoin, the spoke would let a liquidator receive WBTC from the Hub while the vault is held for later redemption. WBTC is a token designed to represent Bitcoin on Ethereum.

Liquidations could take a whole vault at a time because a Bitcoin output cannot be split. The proposal says anyone could trigger the permissionless path, while registered keepers could use a separate direct-redemption path. It also says Aave risk service providers would recommend risk parameters for both spokes.

What happens before this can go live?

The October proposal follows an earlier temperature check that passed, but it is a request for further governance action, not confirmation that the markets are live. The Aave DAO would still need to approve listing and configure the assets, borrowing limits, interest rates, liquidation rules and oracle settings.

The proposal also sets out revenue sharing between Aave DAO and Babylon Foundation. It assigns the first $500,000 of qualifying annual revenue after launch entirely to Aave DAO; higher revenue bands would use different splits, with some funds allocated to open-market purchases of AAVE and BABY tokens.

For borrowers, the key trade-off is that BTC could back an Aave loan without being wrapped, while the proposed system adds vault rules and a multi-day redemption process. The proposal does not guarantee that governance will approve the markets or that borrowing liquidity will be available.

Sources

• Aave governance proposal dated October 14 — governance.aave.com
• integration documentation — docs.babylonlabs.io