Over the few years, cryptocurrency loan has gained momentum and become a new way to earn passive income in the decentralized space. Beyond cryptocurrency trading, people now use their crypto assets to seek loans while they hold onto their digital assets instead of selling them. But the central question is, what is a crypto loan and what do you need to know about crypto loans before getting involved?
What are Cryptocurrency Loans?
Crypto loan is another term used to describe crypto lending. A crypto loan is an exchange or transaction between two different parties, the borrower and the lender. The lending party will give out cryptocurrency to the borrower while holding a crypto coin or some cash as collateral.
This can be done on either centralized or decentralized platforms. And this differs based on platforms. Centralized platforms are intermediaries in the cryptocurrency loan process while initiating Know-Your-Customer (KYC) process. As for decentralized finance (DeFi) platforms, they use smart contracts to execute the crypto loan process.
A crypto loan is a passive way of earning income through cryptocurrency instead of your coins sitting in your digital wallet doing nothing. And the risks involved in locking up your money or crypto coin are minimal.
Crypto investors or users engage in crypto lending when they see an avenue to make more money while trading but low on crypto assets. Or they need to get some crypto assets to HODL for a future purpose. Examples of crypto lending platforms include Binance, BlockFi, Crypto.com, Celsius, and Nexo.
Origin of Cryptocurrency Loans
The pandemic year 2020 introduced crypto loans to the financial service sector. Economies worldwide were stiffening, and cryptocurrencies were lying in users’ digital wallets without adding value. This made crypto owners seek ways to put their crypto assets to work. As a result, cryptocurrency loans became the new trend in the crypto market.
You can get crypto assets or fiat currencies with crypto loans while using your cryptocurrencies as collateral. As against the low-interest rates associated with traditional loans, crypto loans can be overcollateralized because of the volatility attached to cryptocurrency’s nature. This gives the crypto lender an advantage over a plummeted crypto price. But it’s not always a good coin’s side crypto borrower.
How Cryptocurrency Loans Work
For every crypto loan you obtain, you use some cryptocurrencies as collateral. The fundamental principle of car loans or mortgages applies to the crypto loan. Your digital assets stand as a pledge for the loan you are obtaining, and you pay it over a period. Crypto exchange or crypto lending platform offers this kind of crypto service.
Although you still own the crypto assets you use as collateral, you don’t have outright control over them. For instance, you cannot trade them or use them during transactions. Likewise, you might eventually pay more upon returning the crypto loan if the price of your digital asset plummets or you default.
Benefits of Taking a Cryptocurrency Loan
As a crypto enthusiast, investor, or trader, cryptocurrency loans have some distinguishing features that make them more attractive when compared to traditional loans. We examined some benefits of a cryptocurrency loan in this section.
- Accessible Capital
When you compare crypto loans to traditional loans, they are easier to acquire. You don’t need to undergo the rigorous process of signing documents and credit checks. You only need to provide collateral that will grant you access to the loan. Once your crypto loan is approved, you will receive your funds in a few hours. That’s faster compared to traditional loans that can take days or weeks.
- Loan Currency Choice
You have the privilege to choose the kind of loan funds you want. You can choose to have the loan funds as fiat currencies or cryptocurrencies. However, this depends on the platform you are using and the reason behind your need.
- Passive Income Generator
If you want to put your crypto assets to work and earn passive income, you should consider a cryptocurrency loan (or crypto lending). This allows you to earn extra cash by lending out your digital assets. In this case, you earn APY, and you don’t need to manage the loan directly.
- Low-Interest Rates
Although crypto loans might not be cheap as car loans, they have better interest rates when compared to traditional loan interest rates. A crypto loan can offer you an interest lower than 10%.
- Loan Capacity
The amount of loan you can acquire depends on how your crypto portfolio is valued. Some platforms can lend you about 50% of your crypto portfolio. At the same time, some exchanges can offer you a crypto loan for up to 90% of your portfolio.
- No Credit Check
It will be difficult for you to get a traditional loan with a poor or no credit history. But platforms rendering crypto loans or exchanges do not conduct a credit check. You apply for a loan and get it once you meet the requirements. This is an effective alternative if you have a poor or no credit history.
How to Get a Cryptocurrency Loan
Getting a cryptocurrency loan is not difficult. But there are two ways to obtain a crypto loan. You can obtain crypto loans from centralized exchanges such as Binance or BlockFi. And you can obtain it from decentralized platforms, known as DeFi platforms. DeFi crypto loans are regarded as cryptocurrency loans without collateral.
Crypto Loans on Centralized Exchanges
Getting a crypto loan on centralized exchanges (CeFi) requires following some procedures and meeting some requirements. First, you will create an account with the platform to satisfy the KYC process. This process is established as a way to stop fraud or money laundering.
These centralized platforms used protocols to keep your collateral safe. Some platforms use insurance medium or cold storage. CeFi platforms include more paperwork than DeFi platforms. But they can be a suitable alternative for traditional investors since it is regulated.
Crypto Loans on Decentralized (DeFi) Exchanges
Obtaining crypto loans from decentralized platforms is regarded as crypto loans without collaterals. These crypto loans offer innovative financial services with short-term liquidity. You can pay back with fiat currency or crypto assets for this crypto loan. Some argued that it is a form of an unsecured crypto loan. However, conduct your due diligence before using the platform.
What would happen if you default on a cryptocurrency loan?
If you default on a cryptocurrency loan, the platform might liquidate your crypto holdings. And this can cost you a tax bill significantly when your digital asset value increases since you bought them first.
Is Crypto Loan Safe?
When considering a crypto loan—either as a borrower or lender, the first thing that should be in your mind is the platform’s security. That is because there are a series of hacks around the crypto space. And outside of that, you should be sure that your crypto assets are not lost in the air during the process. Thoroughly research the lending platforms and their reputations in the decentralized markets.
Do You Need a Cryptocurrency Loan?
This question goes in two ways. It answers from the borrower’s and lender’s perspectives. If you are a crypto investor or trader that needs quick cash to sort some bills without selling your crypto assets, you can leverage crypto loans. On the other, you can put your digital assets to work and earn passive income if you are HODL-ing them for long. That can increase their values.
However, it is paramount that you investigate the risks associated with both sides of cryptocurrency lending. That’s because you should be sure about what will transpire if the price of digital assets drops. Likewise, familiarize yourself with the advantages and disadvantages of both parties involved in crypto loans. This guides your decision-making process.
