Understanding Bitcoin Lending: Borrowing vs. Lending
The term “Bitcoin lending” encompasses two distinct concepts. The first, borrowing against Bitcoin, involves using your BTC as collateral to secure a loan in dollars or stablecoins, which incurs interest. This approach is what most individuals seek, making it a primary focus on this topic. The second concept, lending out Bitcoin, entails depositing your BTC and earning interest from borrowers. However, the demand for borrowing Bitcoin directly is significantly lower, resulting in less attractive interest rates for lenders.
Loan-to-Value Ratio and Liquidation Explained
Loan-to-value (LTV) ratio is a key measure in borrowing, calculated by dividing the loan amount by the value of the collateral. For instance, if you borrow $50,000 against Bitcoin valued at $100,000, your LTV stands at 50%. Should the value of Bitcoin decline, your LTV will increase. If it surpasses the lender’s specified limit, you may receive a margin call, and if it exceeds the liquidation threshold, some or all of your Bitcoin could be sold to settle the loan. Starting with a lower LTV provides a safety net; for example, an LTV of 30% allows for a substantial drop in Bitcoin’s value before reaching the critical 70% threshold.
How Decentralized Finance (DeFi) Borrowing Operates
In platforms such as Aave, Morpho, and Compound, users can deposit tokenized versions of Bitcoin, like cbBTC or WBTC, which are backed by custodians, and then borrow stablecoins such as USDC. This process is streamlined, requiring no credit checks or lengthy applications, with interest rates fluctuating based on market demand. Liquidation processes occur automatically, and borrowers are accountable for their own wallets. Coinbase utilizes Morpho technology on its Base platform to facilitate Bitcoin-backed loans.
Understanding Traditional Lender Loans
Companies like SALT, Ledn, Arch, and Lava offer loans backed by Bitcoin, where they hold your BTC and provide you with dollars. The application process involves passing identity verification and securing a fixed interest rate and loan term. Although traditional lender rates are generally higher than those in DeFi, they offer predictability, with some lenders providing multi-year fixed rates and options that don’t require monthly payments. It’s essential to understand how these companies manage your Bitcoin and whether they engage in rehypothecation—re-lending your assets.
Can You Earn Interest on Bitcoin?
Yes, it’s possible to earn interest on Bitcoin, but current returns are lower than one might expect. In major DeFi markets, lending Bitcoin yields nearly 0% due to minimal demand for borrowing BTC. However, centralized platforms tend to offer better rates, with Nexo promoting returns of up to 4.7% for flexible savings and 5.7% for fixed terms, contingent on holding their NEXO token. It’s important to acknowledge that higher yields come with increased risk; for example, during the failures of Celsius, BlockFi, and Voyager in 2022, clients’ Bitcoin assets were locked in bankruptcy proceedings.
Tax Considerations
In the United States, borrowing against Bitcoin does not typically constitute a sale, thus not triggering capital gains tax. However, if a liquidation occurs, it is treated as a sale, and any interest earned on Bitcoin is generally subject to taxation. It’s advisable to consult a tax professional to understand your specific tax obligations.
Methodology Overview
The borrowing rates in DeFi are variable and reflect the current market rates for stablecoins. Rates from lenders are directly sourced from their published schedules, which may label rates as APR or interest. It’s crucial to note that individual rates may vary based on factors such as loan size, LTV, and geographical location.
Interest Rates for Borrowing Against Bitcoin
Currently, in the DeFi space, interest rates for borrowing against Bitcoin range between 3.9% and 14.0% annually, depending on market conditions and the amount of Bitcoin deposited. Traditional lenders offer rates that typically range from 7.49% APR (for SALT at a 30% LTV and one-year term) to approximately 11.5% APR for smaller loans.
Lending Out Bitcoin
Yes, it is feasible to lend out your Bitcoin. Within the DeFi sector, lending out BTC results in returns of less than 0.2% at present. In contrast, centralized platforms like Nexo provide higher returns, approximately 4.7% to 5.7%, though this comes with the inherent risks associated with these platforms.
Is Crypto Lending Worth It?
Utilizing Bitcoin as collateral can be advantageous for those seeking liquidity without liquidating their assets, particularly when maintaining a low LTV to avoid forced liquidation during price drops. While lending Bitcoin in DeFi yields minimal returns, the higher yields from centralized platforms are accompanied by counterparty risk.
Best Crypto Lending Platforms in the USA
Selecting the ideal crypto lending platform depends on individual needs. DeFi platforms like Aave, Morpho, or Coinbase’s Morpho-based loans provide cost-effective and flexible options. Conversely, traditional lenders such as SALT offer fixed rates and terms, so it’s crucial to verify each provider’s availability in your state.
Current Interest Rates on Bitcoin
If you choose to lend Bitcoin, DeFi platforms currently offer returns near 0%, while Nexo provides yields of up to 4.7% to 5.7%. For those looking to borrow against Bitcoin, expect interest rates ranging from approximately 4% to 11.5% annually.
Impact of Bitcoin Price Fluctuations
A decrease in Bitcoin’s price results in an increase in your LTV. If the LTV exceeds the lender’s limit, you will be prompted to either add more collateral or repay the loan; should it surpass the liquidation threshold, a portion or all of your Bitcoin may be liquidated to fulfill the loan obligation.
