How to Use Cryptocurrency for Debt Consolidation
You may have ridden the cryptocurrency wave and are now riding its ups and downs. With your assets, you may now be thinking about how to consolidate your pile of debt from credit cards, student loans, and maybe auto loans. After all, there’s no better way to lock in your gains by paying off your debts, right? You then decide to consolidate some of your debt to lower interest or get a lower term. How then can you use cryptocurrency for debt consolidation?
Use your cryptocurrency as collateral for debt consolidation
The first step for using crypto to consolidate your debts is to look for a company that allows you to use your cryptocurrency as collateral. There are a few companies out there that offer this service like BlockFi, Celsius, Nexo, and a few others.
You will need to open an account with whichever company you choose and use it to house your cryptocurrency assets. You can then apply for a personal consolidation loan, and the company would use your cryptocurrency as collateral. Interest rates terms and percentages vary, but the good news is you don’t have to sell your crypto assets in order to pay off the loan. You can keep holding whatever coins you have and pay off the loan in cash.
Let’s look at an example to see how this would work in real life:
Credit Card Debt #1 = $1,000 and 18% interest
Credit Card Debt #2 = $2,000 and 15% interest
Student Loan = $3,000 and 6% interest
Total Debt = $6,000
So your total debt is $6,000. But do not despair, because in this example, you may have 1 Bitcoin in your wallet that you bought 5 years ago and totally forgot about. Well, let’s suppose that 1 Bitcoin is worth $40,000. Sure, you could sell a part of it, but if you do, you will be taxed on that income so what you have is actually less than $40,000. Also, you may believe that the value of your Bitcoin will go up much higher in the future, so you don’t want to lose out on that.
Instead, you apply for a Crypto Loan worth $6,000. Using a 50% LTV (Loan to Value), you pledge only a third of your Bitcoin as collateral. You use the $6K from the crypto loan to pay off your two credit card balances and the car loan. What does your debt situation look like now?
Crypto Loan = $6,000 at 5% interest
Well, you’ve wiped out three debt balances from 2 credit cards and an auto loan that charged high-interest rates and now have to pay back only one debt balance, at a lower interest. It’s less stressful and less hassle. These companies will not do any credit checks on you nor will they hit your credit report. However, there’s also a catch to using your crypto as loan collateral.
A downside: when your cryptocurrency goes down in value and margin calls
Of course, there is a downside to consolidating your debt and putting your crypto up as collateral. Suppose that when you apply for your crypto-loan, your Bitcoin is worth $40,000. Let’s fast forward 3 months. Your Bitcoin has lost half its value (this has actually happened numerous times in the last 5 years, so it is not as unlikely as it sounds) and is now worth $20,000. This means that your LTV needs to be re-calculated. Before, you only had to pledge a third of your Bitcoin, but now your lender may request half of your Bitcoin to be put down as collateral.
In addition to that, your crypto lender also has an option to do a margin call. This will essentially result in your crypto lender selling your collateral to cover the value of your loan. That is why it’s important for you to watch the price of your pledged crypto collateral, and you’ll have to have the liquidity to cover this scenario.
A Warning: Cryptocurrency is a highly volatile and unstable market
Given the volatility of the crypto market, it makes sense to keep some cash in liquid funds to help pay for margin calls or to pay down the consolidated debt faster. This will help free up your assets and you’ll eventually become debt-free. Your gains today may be wiped out almost instantly, and before investing in highly volatile markets, concentrate on paying down your debts.