Earning interest is a fantastic method to utilise unused crypto assets, but it has significant effects on your tax bill. Read more in our guide on crypto interest taxes. In the crypto world, HODling for the moon is a popular tactic. But what if you could accomplish more with your idle assets?
A number of ways for cryptocurrency investors to earn interest on their held assets are available on both controlled and decentralised crypto exchanges, as well as other Decentralised Finance apps. We’re looking at what cryptocurrency interest is, how it may be earned, and what it implies for you tax-wise.
What is the interest in crypto?
You may do the same with your cryptocurrency just as you could put fiat money into a savings account with a bank and earn interest—and even compound interest. The main distinction is that you will often earn interest in cryptocurrencies rather than fiat money. This may in some cases be the same currency as the asset you deposited into a particular account. In other cases, it will be in a different cryptocurrency, such as a stablecoin or a token for a liquidity pool.
When you receive these interest earnings, you have two options: keep them and put them into more investments, or sell them for fiat money.
On the other hand, whenever you take out a crypto loan, you’ll also have to pay interest, which is frequently paid in cryptocurrency.
Taxation of cryptocurrency interest?
Cryptocurrencies are either viewed as income or as a capital gain from a tax viewpoint. Most of the time, tax offices will view cryptocurrency interest as a form of income which can be calculated by the tax crypto softwares, much like a dividend or bonus, and will impose income tax on it. This would apply if you were receiving fresh coins or tokens as a result of a protocol or service that paid interest. Simply use the fair market value (FMV) of the cryptocurrency asset on the day you got it to determine your earnings and subsequent taxes, and include this income in your annual tax return as additional/miscellaneous income.
While cryptocurrency interest is taxed as income, if you later “dispose” of it by selling, exchanging, using, or gifting it, the proceeds will also be taxed as capital gains. This is so because cryptocurrency is seen as an asset, much like a stock, and every time you sell an asset, your taxes will treat it as a capital gain or loss.
When you contribute money to a liquidity pool, you won’t get new tokens in return; instead, you’ll get tokens called liquidity pool tokens (LP tokens). The value of your tokens increases based on the benefits you’re receiving from having your capital in the pool rather than being paid out as new tokens.
You might not appear to be making money in these circumstances. After all, you won’t be receiving any additional cash or tokens. Instead, when you added and deleted your tokens and exchanged them for LP tokens, you might have set off a Capital Gains Tax event. This could be compared to cryptocurrency-to-cryptocurrency swaps, which are often taxed on capital gains rather than income in most nations.
BINOCS is a crypto portfolio management site which makes all cryptocurrency taxes, including interest taxes, straightforward.