How to generate defi passive income through lending crypto

Learn how to earn defi passive income by lending crypto, including Bitcoin, on decentralized finance platforms.

One of the biggest buzzwords in the crypto space today—defi, short for decentralized finance—has made finance cool again. Apart from making financial products decentralized and easily accessible to users from all walks of life, defi platforms also offer them the option to generate passive income from their crypto holdings, including Bitcoin (BTC).

In a previous live Q&A broadcast, prominent crypto personality Andreas Antonopoulos shared the best ways to generate passive income with defi on your Bitcoin.

Generating passive income on Bitcoin

Crypto is known for its ups and downs, which has led to the rise of hodling. This term, originating from a typo in a Bitcoin forum back in 2013, describes crypto owners who cling to their assets regardless of market conditions.

It is now possible to lend your Bitcoin or other cryptocurrencies to defi protocols based on the Ethereum (ETH) blockchain, which offer attractive interest rates on the lent crypto.

Lending Bitcoin is one of several ways to earn defi passive income, turning your crypto stash into a business opportunity. According to Antonopoulos, through defi, one can put their crypto holdings to productive use. Specifically, one could lend their Bitcoin to a defi platform such as MakerDAO and start earning interest on it.

The tech entrepreneur added that by using defi smart contracts, one could convert their BTC into Ethereum or other cryptocurrencies and subsequently put it on a platform where it could be lent out.

Through crypto lending, hodlers and other crypto users can earn interest by lending their digital currencies. For comparison, traditional savings accounts at banks are currently offering an average annual percentage yield (APY) of around 0.57%. With crypto lending, the potential to earn significantly higher interest on your crypto assets without selling them is on the table.

Moreover, crypto lending platforms simplify the process of taking out loans by using digital assets as collateral.

If you’re interested in knowing how to make money with defi through crypto lending, this article should be a good place to start before you dive in.

What is defi lending?

Defi lending involves lending your crypto to a decentralized finance platform and receiving interest on the loaned amount. Like in traditional finance, some people want to put their assets to work while others need to borrow. 

Decentralized lending platforms facilitate these connections between lenders and borrowers, allowing you to make money with defi by lending crypto while managing your risk.

How does defi lending work?

Defi lending, akin to traditional lending, is usually facilitated through institutions that act as intermediaries by finding borrowers for your loaned funds. These platforms then distribute the interest earned from these loans to you as yield rewards.

You’ll earn interest in the form of APY whenever you lend your Bitcoin, Ether, Dai, or whatever other digital asset you hold. It operates similarly to how APY works with traditional savings accounts at banks. However, crypto APYs tend to be higher due to the increased risk associated with the asset class.

APY accrues during the period when your crypto is deposited with a decentralized lending service. To maximize APY, some platforms may require you to lock up your crypto for a specific duration, during which you won’t be able to access or withdraw it.

Your loaned crypto is provided to borrowers, who, unlike traditional lenders that assess a borrower’s creditworthiness through factors like credit scores, must deposit collateral to ensure loan repayment.

This setup means you don’t need to worry about losing your loaned funds if borrowers default, as crypto loans are typically fully secured by collateral originating from your funds.

How to choose a defi lending platform

The decentralized lending space is booming, and there are numerous names you could pick from to make money with defi. However, not all lending platforms are created equal. While they all offer returns on invested tokens, you’ll need to consider differences in APYs, lockup terms, and supported assets, among others, before you decide where you’ll lend your crypto.

Here are some key considerations when choosing defi projects for passive income:

Security: When entrusting your crypto to a third party for custody, you must consider the platform’s security. While defi platforms endeavor to have the best security features, they are not immune to hacks or technical glitches. Therefore, it is essential to do your due diligence before choosing a lending platform.

Fees: Lending platforms deduct some of the fees when loaning out your funds. These fees are often included in the interest payouts and may not be explicitly stated. It’s important to compare platform costs and be aware of potential hidden fees, especially with higher APYs.

Lockup rules: Certain platforms also mandate locking up your crypto for a set period while it’s loaned out. Lockup periods often offer higher APYs compared to flexible lending terms. Ultimately, it is up to you to choose what works best for you, whether flexible terms or fixed lockups.

Annual percentage yield: With your main interest being defi passive income, a platform’s APY rate should be of great importance to you. Since they usually offer varying APYs for your loaned crypto, comparing these rates and balancing them with other factors is crucial.

Yield terms: Different platforms also have distinct schedules for interest yield payouts and handling new fund inflows. Some may pay interest after every 30 days or after every seven days, while others do so daily. Some platforms may allow additional fund deposits at any time, while others have specific periods. Consider all these things as you pick a defi lending platform.

How to sign up for a defi lending platform

While different defi platforms may have slightly different onboarding experiences for new users, the general steps to follow are broadly similar. Here, we look at what you’ll most likely need to do to sign up for a lending platform: 

• First, visit the website of your chosen defi platform and log in or sign up for an account.
• After logging in, access the “Lending” dashboard. Here, you’ll usually find information on expected APYs and other details for your cryptocurrency.
• If there is a “Details” option, use it to get specific information on the cryptocurrency you wish to lend. Ensure you understand the batch process before proceeding.
• You can transfer your crypto to the lending platform by locating it in the “Balances” section of your dashboard and clicking “Deposit” beside it.
• Most platforms offer you the choice of scanning a QR code, copying and pasting a displayed address into your crypto wallet, or using an exchange to transfer your crypto to the lending protocol.
• Your transferred crypto should be reflected in your account instantly. 
• When ready to lend your crypto, click “Enter” and specify the amount to deposit into a yield-generating program on the platform.

Risks of lending crypto

As Andreas Antonopoulos stated in his Q&A, moving from a Bitcoin platform to an Ethereum platform carries risks.

“You’re going to be moving from Bitcoin to an Ethereum-based platform, and the security isn’t quite equivalent. Ethereum has advantages and flexibility, and it pays a small price in security as a result.”

Antonopoulos further stated that moving funds to defi platforms could expose you to increased gas prices. According to him, such things can cause you to lose some or all of your invested capital.

The author of several best-selling books on cryptocurrencies, including “Mastering Ethereum,” noted that despite the technical robustness of smart contracts, they are still at a very early stage, and it is almost impossible to guarantee that a smart contract has no bugs.

These fears are not unfounded, as, to date, there have been numerous incidents of defi protocols being exploited by sophisticated cyber attacks, duping investors to the tune of billions of dollars.

Other risks associated with lending crypto include:

Regulatory concerns: There is still quite a fair bit of regulatory uncertainty surrounding crypto. As such, regulators could implement new rules anytime that could impact lending viability or require compliance changes during your loan term, thus affecting your defi crypto passive income stream.

Platform risks: As earlier stated, defi platforms are prone to several security challenges. They can be hacked, the team can orchestrate a rug pull where they disappear with user funds, or they could even become insolvent due to the unpredictable nature of the crypto market. Furthermore, unlike traditional finance, funds kept on defi platforms aren’t government-secured. All these can put your defi income at risk, so it is important that you be aware of them and how the platform you choose mitigates against them.

Asset lockup: While lockup periods could result in higher yields and improve your passive income with defi, they also restrict access to your crypto while it’s loaned. It may not be ideal during market fluctuations that could impact potential gains or losses.

Final thoughts

As we explore the world of decentralized finance lending, it’s crucial to balance the potential for defi income with the inherent risks. Defi is undeniably changing how we interact with financial products, offering attractive yields and opportunities to grow our crypto assets. However, it’s essential to proceed cautiously, considering factors like platform security, regulatory uncertainties, and the trade-offs of lockup periods. 

By staying informed, conducting thorough research, and choosing reputable platforms, you can harness the power of defi lending to enhance your passive income-earning strategies using crypto.