Crypto Backed Loans: Tax Savings for Your Holdings
Should I get a crypto-backed loan?
With so many options coming available for cryptocurrency backed loans, many are beginning to wonder if this is an option that should be utilized. Given the benefits this can pose when tax time comes, this is worth considering for many.
What are the benefits?
By taking a loan and using crypto as collateral, you can unlock the value of your holdings without having to recognize gain. In some cases (depending on how you are structured), you could even write off the interest that you pay on said loan. This is relatively common with securities, engaging in a non-recourse loan with the security as collateral, as the assets are generally liquid. If the individual does not pay back the loan, the assets are seized and sold, triggering a capital gain to the borrower. These loans allow taxpayers to utilize the value of their assets, while letting them stay long in their position. In some cases this achieves a long term capital gains rate when paid off, yet allows you to use the borrowed funds today.
What to look out for...
When picking a loan service, it is incredibly important to pick a provider that is not going to sell your assets right away. This could result in your loan being considered a sale, which forces you to recognize the gains right away - the opposite of what you want for your taxes.
This happened in the case of Calloway versus the Commissioner. The taxpayer engaged in a loan of 90% of Fair Market Value against shares of stock with Derivium Capital. Derivium had rights to sell the stock, which were included in the agreement; they exercised those rights almost immediately in every instance of the loan. The courts ruled against the taxpayer, stating it was a sale, in part because the taxpayer was not able to terminate the loan at will. This is one of the many prerequisites for a loan to be considered as such. Another issue brought up is that the gain or loss in the stock’s dividends were not attributed to the taxpayer. This furthered the court’s case that the taxpayer had engaged in a sale, not in a loan.
The key in crypto-backed loans, is that you retain the rights and the impacts of ownership. Any sale of the assets should flow through to the borrower, even if they keep the loaned amount. If there is a dividend paid, the taxpayer is to receive the benefit. You should also be getting back your original assets, not pooled assets. This prevents the IRS from deaming your loan as a sale.
So where should you go for a crypto loan?
I recommend starting with the following companies. I have talked with them and looked through the terms. As always, do your own research: ask questions, read the fine print and make sure you know all the details of the loan to which you agree.
Unchained Capital features straight forward fiat loans. This means there is no having to move additional assets to the exchange to sell them. In talking with Joe Kelly and Anthony Santaga, these guys take the security of your crypto seriously. They walked me through their terms and take a very personal approach to your loan. One really great example of this: if the value of your loan falls below the liquidation threshold (since crypto can be volatile) they will contact the borrower and work with them to get the Loan to Value Ratio to a safe level to prevent a forced sale.
Dharma is a peer to peer protocol that allows people to borrow ERC-20 tokens against their own ERC-20 tokens. The borrower can set the interest rate, term, and collateral amount, and then post the loan to the market to see if it will be filled. This is a great way to utilize Alt tokens that you are letting sit longterm. You could set the loan to borrow DAI, which should not fluctuate in value but allow you leverage your crypto holdings. Your initial crypto is held in a smart contract; if you do not make your repayments, the asset can be seized by the lender. This option gives you the flexibility of making your own terms, but only if you put out what the market wants. You will need to have Metamask to use the Dharma Plex Platform. Also check out the relay system Bloqboard to see what loans are on the market, and which ones are being filled. Bloqboard just hit the mainnet, but shows a lot of promise as a tool to bring attention to loans, and gives borrowers a good overview of what the market is looking for in loan terms.
Still have questions?
If you have questions about whether or not a crypto loan makes sense for you and your holdings, give us a call to talk through the tax implications.
**As always, do your own due diligence when it comes to your financial dealings. This article is intended for educational and conversational purposes only; it is not specific advice on your situation.**