A liquidation is a process when a borrower's collateral does not adequately cover their loan/debt value. This might happen when the value of their collateral decreases (market movements, withdrawals from Anchor etc) or because the value of their debt increases (market movements, debt interest accrual etc).
If the value of a borrower's debt exceeds the value of their maximum permitted credit limit up to 100% of their debt can be repaid by a liquidator. In return, the liquidator can seize the lenders collateral with a 13% bonus.
Bob deposits 1 ETH, which is worth $1800 at the time.
The maximum collateralization ratio of Anchor 180%, meaning that the maximum Bob can borrow is 0.55 ETH worth of DOLA ($1000).
Bob borrows 0.5 ETH worth of DOLA ($900), which puts his collateral ratio (Debt / Credit Limit factor) at a very risky 91%
The USD price of ETH then moves down significantly by 25% in one block to $1350. This results in the maximum amount of DOLA that Bob can borrow (his credit limit) reducing to $743 worth of DOLA ($1350 * 0.55), as the USD value of his 1 ETH collateral has reduced significantly
As Bob's Debt / Credit Limit ratio is now over 100%, at 121% ((1800*0.5)/(1350*0.55)*100)), Bob is now considered insolvent.
Bob can no longer withdraw his collateral from Anchor or borrow more until he has either repaid part of his debt or has deposited more collateral (to increase his credit limit)
Before Bob can take any action an external liquidator notices that Bob is insolvent and repays the entire 100% of Bobs outstanding debt of $900 worth of DOLA to the Anchor protocol. At the same time the liquidator seizes $900 worth of ETH collateral from Bob plus 13% (the 13% liquidation 'bonus').
Bob now has no outstanding debt. He now has $333 worth of ETH (0.247 ETH) still deposited to Anchor and $900 worth of DOLA.
It is very important that you monitor the health of your debt position to make sure that your outstanding debt does not exceed your credit limit. You can monitor on the borrow section of the Anchor Banking page. In the screenshot below, the Debt / Credit Limit factor is 49.96%