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Overview

Liquidation occurs when your loan’s health factor drops below 1, meaning your collateral value is insufficient to safely back your loan.
Fixed rates don’t eliminate liquidation risk from collateral price drops. They eliminate rate-spike liquidations only.

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How Liquidation Works

1

Health Factor Drops Below 1

Collateral value fell or loan balance increased (at maturity)
2

Position Becomes Liquidatable

Anyone can liquidate your position
3

Liquidator Action

Liquidator repays portion of your debt
4

Collateral Seized

Liquidator receives collateral + penalty
5

Position Adjusted

Your loan reduced, some collateral gone

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Liquidation Math

Example Position:
  Collateral: 5 ETH @ $2,000 = $10,000
  Borrowed: $8,500 USDC
  Liquidation Threshold: 85%

  Health Factor = $10,000 / ($8,500 × 0.85) = 1.38 ✓ Safe

ETH drops to $1,600:
  Collateral Value: 5 × $1,600 = $8,000
  Health Factor = $8,000 / ($8,500 × 0.85) = 1.11 ⚠️ Getting risky

ETH drops to $1,400:
  Collateral Value: 5 × $1,400 = $7,000
  Health Factor = $7,000 / ($8,500 × 0.85) = 0.97 ❌ LIQUIDATABLE

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Liquidation Penalty

When liquidated, you lose:
  • Portion of collateral to cover debt
  • Additional penalty (varies by asset)
CollateralLiquidation Penalty
ETH5%
wBTC5%
Stablecoins3%
Stocks8%
Gold5%
Example: 
Liquidation Event:
  Debt repaid by liquidator: $4,000
  Collateral seized: $4,000 + 5% = $4,200 worth

  You lose: $4,200 in collateral
  You keep: Remaining collateral, reduced debt

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Avoiding Liquidation

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1. Monitor Health Factor

Safe Zone

Health Factor > 1.5

Warning Zone

Health Factor 1.2 - 1.5

Danger Zone

Health Factor 1.0 - 1.2

Liquidatable

Health Factor < 1.0

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2. Set Up Alerts

Enable notifications for:
  • Health factor below 1.5
  • Health factor below 1.3
  • Health factor below 1.1
  • Collateral price drops 10%+

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3. Add Collateral Proactively

Don’t wait until danger zone. Add collateral when:
  • Health factor drops to 1.5
  • Major market volatility expected
  • Approaching maturity with interest to settle

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4. Partial Repayment

Reduce loan balance to improve health factor: 
Before:
  Collateral: $10,000
  Borrowed: $8,000
  Health Factor: 1.47

Repay $2,000:
  Collateral: $10,000
  Borrowed: $6,000
  Health Factor: 1.96 ✓ Much safer

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5. Use Conservative LTV

Don’t borrow the maximum. Leave buffer:
StrategyUtilizationSafety
Conservative50-60%Very Safe
Moderate60-70%Safe
Aggressive70-80%Risky
Maximum80-90%Very Risky

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Fixed Rates Help (But Don’t Eliminate Risk)

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What Fixed Rates Prevent

Rate Spike Liquidations

Variable rates can’t suddenly increase your debt

80% of Traditional Liquidations

Most DeFi liquidations come from rate spikes

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What Fixed Rates Don’t Prevent

Collateral Price Drops

If ETH falls 40%, you can still be liquidated

Maturity Interest Settlement

Interest added at refinance increases debt

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Liquidation at Maturity

Special risk: When loan matures, interest settles: 
Before Maturity:
  Collateral: $10,000
  Principal: $8,000
  Accrued Interest: $500
  Health Factor: 1.47

At Maturity (interest settles):
  Collateral: $10,000
  Total Debt: $8,500
  Health Factor: 1.38 (lower!)
If health factor was already marginal, maturity settlement could trigger liquidation. Solution: Add collateral before maturity or enable auto-refinance with collateral top-up.

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Recovery After Partial Liquidation

If partially liquidated:
  1. Assess Damage: Check remaining collateral and debt
  2. Stabilize: Add collateral or repay to improve HF
  3. Review Strategy: Consider reducing leverage going forward

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Self-Liquidation

In some cases, self-liquidating may be better than waiting:
  • You control the timing
  • Can minimize losses vs. waiting for worse prices
  • Close position on your terms

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FAQs

No. Collateral can always drop in value. You can only minimize risk through conservative LTV and active monitoring.
Anyone can liquidate. Professional liquidator bots typically execute liquidations quickly for profit.
No. Only enough collateral to cover the debt + penalty. Remaining collateral is yours.
No grace period for price-based liquidations. Once HF < 1, you’re liquidatable immediately.

Monitor Your Positions

Check health factors and set up alerts