Unless you’ve been living under a rock, you’ll be more than familiar with lending and borrowing. After all, the concept has been around for roughly 3,000 years and is a central to the traditional banking system.
But have you ever thought about what it means for DeFi? Thanks to innovative platforms like AAVE, MakerDAO and Compound, anyone can access lending and borrowing services quickly, easily and without giving their personal data to a third party or central authority. Anyone who lends crypto can earn extra interest on their assets, while borrowers are able to easily take out a loan that would’ve been otherwise unavailable to them.
This type of system is proving to be increasingly popular among investors. So much so, that some are even choosing DeFi lending platforms over traditional banks.
But let’s start at the beginning and look at how crypto lending and borrowing works.
Crypto lending allows investors to lend their assets to different borrowers. A lender deposits their tokens into a lending pool, which will then be distributed to borrowers through smart contracts. When a loan is taken out, they will then receive interest payments, otherwise known as “crypto dividends”.
For instance, a lender may have a portion of bitcoin (BTC) and want to earn a passive income from it. By depositing their assets into a crypto lending platform wallet, they’ll receive interest on a weekly or monthly basis. The amount of interest given depends on the platform used. While it usually ranges from 3-7%, it can be as high as 17%.
To borrow crypto, you must first stake your tokens. This is because these assets are used as collateral and will act as a security in the event of a failed repayment. If the loan cannot be repaid, the collateral can be sold off by investors to recover the losses. Here’s how the whole process works:
The borrower goes to a lending platform to request a crypto loan.
Once the loan is accepted, the borrower stakes their tokens and will not be able to access them until the entire amount is repaid.
The lender will automatically fund the loan and will receive regular interest payments.
Once the loan is paid back, the borrower will get their tokens back.
DeFi lending and borrowing makes the process of taking out a loan quicker and easier. There are also significantly fewer requirements in comparison to traditional lending methods.
Taking out a loan with a bank is a lengthy process, and largely depends on your credit score, credit history and income. They also require an abundance of information, including your social security number, proof of employment, bank statements, proof of ID and more.
With 1.7 billion unbanked adults worldwide, there are many who are not able to take out traditional loans. Therefore, DeFi loans offer a more accessible alternative, as a bank account or credit score aren’t required. This means that people can get the funds they need without the worry of getting approval from their bank.
Crypto loans are also a lot quicker than borrowing from the bank, which typically take a few days to get approved. Most DeFi platforms will approve a loan within 24 hours and will only need a valid ID and collateral to determine whether someone is eligible or not.
Finally, a crypto loan offers much more flexibility. When you take out a regular loan, you don’t have much control over the terms, including the amount you can borrow and interest rate. Borrowing on a DeFi network allows you to determine the length of your loan, the loan-to-value ratio (LTV) and what crypto, stablecoin or traditional currency you wish to be paid in. While the amount will depend on your collateral, it still offers a more flexible alternative to a bank loan.
Overall, it’s easy to see why DeFi lending and borrowing has become the preferred method for many over traditional loans. Borrowers can take out loans with little-to-no hassle, and lenders gain a good opportunity to earn interest on their assets.
If you’re not keen on lending crypto, why not move your tokens into an X-Account? It’s quick, easy and you’ll effortlessly earn interest rates of up to 16% AER on selected currencies.
Find out more about X-Accounts here.