Crypto lending and borrowing is growing rapidly. At one end, It gives investors the opportunity to earn interest and on the other, help businesses and individuals get access to loans quickly.
But while everyone focuses on borrowing or lending, a vital ingredient is missing: the tax implications of these activities. If you’re a trader or investor in this space, you’ll have a lot of questions when it comes to crypto lending taxes.
How should you include lending or borrowing against crypto in your yearly tax filings? What is taxable and what isn’t? And since crypto taxation is still a difficult topic to deal with, you’ll end up more confused with the answers you get.
Thankfully, we’re going to help you understand crypto lending taxes in this guide. We’ll walk you through all the taxable events, what the IRS considers as a hobby or business, and how taxes work.
But before we go into the tax aspect, let’s understand what crypto lending and borrowing are all about.
Crypto lending and borrowing
While it’s been around for a couple of months, crypto lending and borrowing have already gained traction among crypto enthusiasts. There are two main groups in this market: investors and borrowers. Investors are able to lend their money to borrowers in return for interest. Borrowers get access to quick cash using their crypto assets as collateral.
There are no cumbersome processes. No need to provide ‘unnecessary’ documentation. And the interest is also low, especially for borrowers.
The big question is, how do you calculate taxes either as a borrower or lender? To answer this question, we’ll divide the answer into two parts. One from the crypto lending taxes angel and the other from the side of the borrower. Let’s get started.
Crypto lending taxes: giving your money in return for interest
Lenders give out their money to borrowers in return for interest using a crypto lending and borrowing platform. As a lender, you’re entitled to your principal and interest after a specified period. The IRS treats your interest as income, meaning you’re to pay income tax on the interest. Your principal isn’t taxed.
But there is a catch. Whether you’re taxed or not depends on whether you’re operating as a “business” or as a “hobby”.
1.Crypto lending taxes as a business
If you set out to fully lend money to borrowers as a full-time profession, then you’re doing “business” according to the IRS. But how do you know if your lending activity is a business? These factors will tell:
- You operate your lending in a businesslike manner by keeping proper records and books.
- If you invest a lot of your time into lending, and with the goal of making big profits.
- If you depend on lending for your livelihood
- You pursue different and better strategies to master your craft and make more money lending to borrowers.
- You or your advisor has the right expertise to operate as a business.
- If the activity makes a profit or shows signs of making a profit in the near future.
If your lending activities have these features, they’re taxable. And you’re to file your tax under “Profit or Loss from Business”, which falls under Section C, Form 1040.
This puts you in the self-employment/sole-proprietorship tax bracket of 15.3% of your reported income. In this bracket, you are to report your income and expenses. Also, the IRS provides a greater range of deductions under this, including office, operating, and other expenses you may incur during the process.
2.Crypto lending as a hobby and tax implications
If you aren’t lending crypto as a business, you’re to report all interest earned as additional income when filing your taxes. However, this is usually the case if your earnings are below $400. In this circumstance, you’ll file your earnings under Schedule C, which deals with extra income.
But if your earnings exceed $400, you’ll have to file them under Schedule SE, where deductions will be made for social security or Medicare. This is sometimes avoidable.
Crypto-backed loans: Tax implications for the borrower.
If you take a loan from the bank with your house as collateral in the US, this transaction is not classified as a “sale”. That means, you’re not subject to pay tax (in this case, capital gains tax). In the same way, the IRS has made it clear that cryptocurrencies should be treated as “Property” when it comes to tax reporting. Therefore, borrowing fiat with crypto as collateral is not a taxable event because it doesn’t qualify as a “sale”. But there are some activities that may lead to taxable events even for borrowers.
We all know how volatile the crypto market is. This may lead to losses for the lending platform, especially when prices fall drastically. When this happens, beyond a certain level, the lending platform will be forced to liquidate (sell) your crypto asset. This event becomes taxable, and any gains from that on your end will attract a capital gains tax.
Taxes on crypto lending and borrowing: what next?
Whether you’re a lender or borrower, the best way to do taxes is to keep records. Using BearTax, you can track your activities and determine what’s taxable and what isn’t. And you don’t need to be a tax expert to do this.
How to calculate your crypto lending taxes with BearTax
You can calculate taxes using BearTax in easy steps.
1.Export of lending transactions provided by the lending platform
- If you have a file provided by the platform on which you are lending like BlockFi or Nexo or some other platform. You can send us your CSV and we can process it for you in a couple of business days.
2. No file is available and you are doing manually
- If you do not have a file provided by your platform or they don’t provide any file. You would need to put together your withdrawals and deposits of cryptocurrency to and from your wallet.
- This means when you lend your money – that would be a withdrawal from your wallet to their wallet. When you collect interest, it would be a deposit from them to your wallet. When your principal is paid off, you get it deposited on your wallet.
- So, you would need to mark specific withdrawals and deposits on lending, interest, and principal to account for all your earnings and figure out taxes.
- Use our generic way of importing trades on to BearTax and get your taxes done quickly. For more information on importing transactions using a generic file, read this article.