Many platforms allow you to borrow against your cryptocurrency savings at a lower interest rate than traditional lending methods.
But the majority of individuals are intimidated by this form of decentralized financing and don’t understand how it works.
Fortunately, this guide covers everything you need to know about crypto funding. We’ll look at the borrowing and lending process, typical interest rates, and some benefits.
What is Crypto Lending?
Like regular lending, crypto financing occurs when a borrower receives money from a lender and agrees to pay it back with interest over a specific time period. The primary difference is that instead of getting cash, borrowers obtain cryptocurrencies like:
For example, if a lender has three Bitcoins and wants them to earn interest, they could deposit it into a lending wallet. From here, borrowers stake their crypto savings as a guarantee on loan repayment and receive access to this money.
The borrower can use it to buy products and services or invest in businesses.
If borrowers cannot pay the total back, lenders keep the crypto collateral to recover losses.
But you might be wondering why someone will take out crypto loans when traditional financing options are available. Well, there are three main reasons.
You May Read: Things to Know Before You Buy Bitcoin
The Benefits of Crypto Lending and Borrowing
Consider crypto financing if:
- You’re looking for lower interest rates
- Your credit score isn’t up to par
- You need cash immediately
Crypto lending has lower interest rates
Credit card companies and private lenders often charge 15 to 25 percent annual interest, which is why crypto lending is rising in popularity.
You’ll only pay three to eight percent interest by borrowing stablecoins like USD Coin.
It doesn’t require a credit score
If you’re struggling to qualify for a personal loan from your bank, borrowing crypto is a practical alternative because they don’t check your credit score.
You can borrow 50 to 90 percent of your current portfolio, allowing you to qualify for bigger loans compared to what local banks can provide.
You qualify within hours
Qualifying for bank loans can take weeks or even months, making it an unsuitable option if you need cash immediately.
Fortunately, the last reason cryptocurrency loans are skyrocketing in popularity is that you can receive coins within hours. The paperwork is also minimal since you won’t have to walk into a physical branch to apply.
But how does the entire process work?
How Does Crypto Lending and Borrowing Work?
Although it might seem complex, crypto financing is simple and occurs in five steps:
- Borrowers visit a lending platform and ask for a loan
- They stake their current crypto assets as collateral
- Lenders fund the loan
- Lenders receive regular interest payments
- Once borrowers have paid off the loan, they can access their collateral
This process relies on a lending platform to transact and oversee everything. Choosing the right one is essential because interest rates and borrowing conditions vary.
There are Two Types of Lending Organizations:
- CeFi or centralized finance platforms
- DeFi or decentralized finance platforms
CeFi companies operate like banks and their regulations and infrastructure principles follow those of traditional finance. They integrate advanced security and anti-money laundering measures, assume custody of deposits, and provide cold storage solutions. Well-known examples of CeFi brands include:
However, these options are still vulnerable to hacks, and this is where many investors turn to DeFi platforms.
DeFi institutions like DeFi Swap use decentralized or peer-to-peer lending protocols. So you can borrow and lend crypto in a decentralized way without giving up custody of your coins.
These platforms even offer flash loans. Flash loans let you borrow unlimited assets from a smart contract pool, and there’s no collateral required, but you’ll need to repay it within the same blockchain transaction. This makes it perfect for arbitrage trading.
Crypto Interest Rates
Because countless crypto platforms exist, picking one that suits your needs takes research. For high-risk lenders, there are websites offering returns of over 15 percent, while others allow borrowers to loan stablecoins for around three to eight percent.
To find the best rates as a lender, compare options since the same coin can vary up to four percent across websites. Also, opt for high-yielding altcoins. They are volatile and risky, but can earn over 15 percent interest.
For borrowers, use stablecoins because they have lower interest rates. And depending on the market, you might be able to take out a loan at zero percent interest.
How to Borrow Cryptocurrency
Here’s how to borrow crypto in five steps:
- Choose a reputable platform
- Select which coin you want to borrow
- Deposit your collateral
- Pay the monthly installments
- Collect your collateral
Step 1: Choose a Reputable Platform
The first step is to find an organization that’ll connect you to lenders. Here’s a list of platforms that’s trusted amongst crypto borrowers:
However, before choosing one, consider factors like:
- Interest rates
- Security risks
- Additional and hidden fees
- Deposit limits
Look for crypto brokers that provide low-interest rates, tight security, zero hidden costs, and low deposit limits. This allows you to borrow the maximum amount of money at the lowest price while taking on as little risk as possible.
Step 2: Select which cryptocurrency you want to borrow
As a rule of thumb, the larger and more stable a coin is, the less you’ll pay in interest. For example, many sites like Aave let you borrow USD Coin, Tether, and Paxos Standard for below five percent interest.
Step 3: Deposit your collateral
This collateral acts as security for the lender in case you can’t pay the loan back.
Once you’ve put down crypto assets, you lose most rights to it. You won’t be able to access these coins as long as you’re paying off the loan, and you can’t sell it if markets plummet.
Remember that crypto has a significantly lower LTV or loan-to-value ratio than regular loans because the market is so volatile. With banks, you might get a $10,000 loan with only $1,000 down. But by borrowing crypto, you’ll need around $10,000 to take out a $5,000 loan.
Step 4: Pay the monthly installments
Depending on what platform you utilized, repayment methods can vary. Most lenders let you pay loans off within a year using monthly installments, while others offer customizable plans, so you can create your own repayment schedule.
Step 5: Collect your collateral
After you’ve paid off the loan in the period specified, crypto brokers will wire the collateral to your wallet, and you’ll retain full rights over them. This means you can now sell your cryptocurrency or even use it to earn passive income by lending it to other borrowers.
How to Lend Cryptocurrency
Although the process of lending your coins is similar to borrowing them, there are a few additional factors to watch out for. So consider these steps:
- Look for a reputable platform
- Choose between fixed and flexible exchange
- Buy cryptocurrency and lend it out
- Receive interest on your loan
- Collect collateral if borrowers can’t pay you back
Step 1: Look for a reputable platform
Just like the borrowing process, it’s important to first find a trustworthy website since many lenders have fallen victim to scams.
Luckily, organizations like Aqru and Crypto.com have a history and proven track record of good ethics.
Step 2: Choose between fixed or flexible exchange
The next step is to choose which form of exchange suits your lending needs better. Flexible interest rates will fluctuate depending on the market, making it a good option if you’re a high-risk, high-reward lender who wants the best returns since you make more money when rates rise.
The only drawback is that borrowers will pay less if rates drop, lowering your overall profits.
Fixed rates are a better option if you’re a cautious lender who isn’t looking for 15+ percent annual returns.
But fixed exchange rates can also work in your favor if you lend crypto when interest rates are high. This is because when rates fall, you’re still receiving higher returns.
Step 3: Buy cryptocurrency and lend it out
After deciding between fixed or flexible interest rates, choose which cryptocurrency to buy and lend. This will depend on your lending goals. Stablecoins like Tether and USD Coin offer lower but predictable returns.
Volatile options may yield higher returns, but there’s an increased risk of the coin losing value. In this case, margin calls occur and borrowers will have to deposit more collateral or risk liquidation.
Step 4: Receive interest on your loan
Now that you’ve completed most of the work, it’s time to collect interest on your loan. The way you receive this interest depends on the platform you’re using, but most will deposit the monthly installment directly into your crypto wallet.
Step 5: Collect collateral if borrowers can’t repay you
Since crypto markets are so volatile, the possibility that borrowers can’t pay the entire loan back due to market drops is significant.
Fortunately, crypto loans have low LTV ratios, so you can recover losses even if a coin loses a lot of value.
This is why it’s crucial to analyze how much risk you’re willing to take and invest accordingly.
Final Thoughts on Crypto Financing
Crypto borrowing allows you to get your hands on large amounts of cryptocurrency without liquidating current assets. This makes it perfect because you can pay bills and buy products and services while benefiting from high returns.
If you want to earn interest with your crypto assets, you’ll be happy to know that you can make anywhere from three to over 15 percent annual returns, depending on how much risk you’re willing to take.
The best part is that the entire process is super simple. Head to a credible crypto platform like Crypto.com, Aqru, or Nexo, and lend or borrow money within minutes by depositing coins into the platform’s digital wallet. These websites even offer tutorials if you need some guidance.