Reputation DAO: Would you give up privacy for unsecured loans in DeFi?

An ambitious new decentralized autonomous organization (DAO) has built a data service for lending platforms that records a user’s financial reputation to reduce the amount of collateral needed for a loan.

It has partnered with Chainlink and that protocol’s founder Sergey Nazarov is an early backer.

Users of Reputation DAO will have traditional financial data such as Anti-Money Laundering and Know-Your-Customer (AML/KYC), credit scores and banking data tied to their account. The data is designed to help ease friction in obtaining a loan from a decentralized platform, but raises questions about security and the principles of zero-knowledge lending.

The Reputation DAO team told Cointelegraph its connection with those traditional financial authorities is “critically important to remove some of the trust barriers related to under-collateralized lending.”

Decentralized finance (DeFi) protocols such as AAVE (AAVE) and Maker (MKR) require users to put down at least 150% of the value of the loan they wish to take out. This over-collateralization protects the protocols from insolvency in the case of liquidations due to volatility since the loans are made through zero-knowledge smart contracts.

While the Reputation DAO team said “retail consumers are getting more comfortable with algorithmic loans,” it also pointed out that “institutional interest is growing at a rapid rate.”

That institutional interest is clearly demonstrated by the $222 million of seed and strategic funds invested in DeFi protocols since March 15, according to crypto fundraising tracker Airtable. Reputation DAO is one of those protocols and closed a $4.7 million seed round on April 13 led by Chainlink co-founder Sergey Nazarov and AirTree Ventures.

But for many DeFi users, tying sensitive financial data to a blockchain based lending platform raises security and privacy concerns. Some users may be more comfortable putting down higher collateral on a DeFi loan if the protocols do not have access to their information, thereby keeping their identity confidential.

Reputation DAO assured Cointelegraph that its partnership with the industry leading information oracle Chainlink, which uses the privacy-preserving protocol DECO, helps keep its users’ data secure.

Cointelegraph reached out to an active and successful DeFi investor who asked to go by the name “Unseo” for his thoughts. He said that he would be wary of using Reputation DAO to help get a loan. He argued that such a service “would make the DeFi system more fragile," and that “I'd be trusting the judges of other participants’ creditworthiness instead of going off math.”

“Even though I have good credit, I'd rather not use a more fragile system for the convenience of having a better utilization allowance.”

Related: First steps: Basic tips for getting started investing in DeFi

Time will tell how DeFi users will react to Reputation DAO’s value proposal.