Babylon proposes native Bitcoin collateral for Aave V4

Babylon Labs has asked Aave governance to let users borrow stablecoins against native Bitcoin through Aave V4, a proposal that could give BTC holders a route to DeFi credit without wrapping their coins. In its Aave governance proposal, published October 14, Babylon outlines an integration using its Trustless Bitcoin Vaults. It remains a proposal: Aave DAO approval, risk settings and security checks are still needed before launch, according to the proposal and Crypto.news’ report.

How would native BTC work as Aave collateral?

Users would lock BTC in a Taproot output on Bitcoin, then use the resulting vault as collateral for borrowing from an Aave V4 Hub. The coins would remain on Bitcoin, while a restricted ERC-20 accounting token would let Aave track the collateral. The proposal says this token would be confined to the integration’s contracts: users could not transfer or trade it as a separate asset.

That is a different route from existing Aave borrowing against Bitcoin-linked assets such as WBTC and Coinbase Wrapped Bitcoin (cbBTC), which represent BTC through arrangements outside the Bitcoin network. Babylon’s design avoids transferring custody of the underlying BTC to a custodian or bridge, but it introduces its own protocol and contract dependencies. The collateral still has to be represented and valued within Aave’s Ethereum-based lending system.

Why does the proposal need a second Aave Spoke?

Babylon proposes two Aave V4 Spokes: a Babylon Spoke for borrowing against BTC and a BTC Vault Swap Spoke to handle liquidation settlement. The second component addresses a timing mismatch. According to the proposal, a vault’s Bitcoin redemption follows a challenge process that can take multiple days, while a liquidator needs a way to settle promptly.

Under the proposed flow, liquidators would receive WBTC drawn from an Aave Hub in exchange for seized vaults. Designated arbitrageurs could later repay that WBTC debt and redeem the BTC on Bitcoin. WBTC is the proposed launch asset for this settlement route, not the user-facing representation of the borrower’s collateral. This design gives liquidators a faster exit, while adding reliance on the swap mechanism, its arbitrageurs and the availability of WBTC liquidity.

The proposal leaves important lending terms to Aave’s risk service providers and DAO. Aave governance would set borrowing limits, interest rates, oracle configuration and liquidation parameters, and could freeze or pause the assets. The proposal does not yet establish final risk settings or a launch date.

What must happen before borrowers can use it?

The governance proposal follows an earlier Aave community temperature check, but it still needs further approval. The main signals to watch are the DAO’s decision, the risk parameters it adopts and the outcome of security checks. Those will determine how much users can borrow against BTC and how the system handles falling collateral values.

The proposal also sets out revenue sharing. Aave DAO would receive the first $500,000 in annual qualifying revenue. Above that, the split changes by revenue band; the proposal allocates a portion to open-market purchases of AAVE and BABY. These terms concern protocol fees, not all interest paid by borrowers, and the proposal says borrower demand or token purchases are not guaranteed.

If approved, the integration would add a native-BTC route alongside wrapped alternatives, with different trade-offs: BTC remains locked on its own network, while borrowing and liquidation depend on Aave’s risk controls and a cross-network settlement process. Governance approval, final parameters and security review will show whether that design moves from proposal to usable market.

Sources and documents

• Aave governance proposal, published October 14 — governance.aave.com
• Crypto.news’ report — crypto.news