Cryptocurrencies like Bitcoin, Ethereum, and Solana are often referred to as digital currencies. However, they aren’t just digital money — they’re also an exciting investment opportunity. This is our ultimate guide on crypto investing with 8 unique methods to increase the value of your cryptos.
With the introduction of decentralized finance (DeFi) in recent years, you can earn dividends from your crypto in various ways, such as yield farming, staking, lending and borrowing, etc. If you’ve ever wondered does cryptocurrency pay dividends and how digital assets can fit into your investment portfolio, we’ve got you covered. And yes, they do pay dividends — just not in a way you are used to.
- Dividends often get discussed in the context of the stock market, but you can earn dividends from digital currencies, or cryptocurrencies.
- We will go over 8 ways you can profit from crypto dividends, including staking rewards, yield farming, mining, and more.
- Before investing in any digital currency, make sure to do your research on the risks involved and tax implications.
A Quick Primer on Decentralized Finance (DeFi)
Decentralized finance (DeFi) refers to the shift from traditional, centralized financial systems such as banks to peer-to-peer, decentralized finance enabled by blockchain technology. Over the last few years, the DeFi ecosystem has launched a broad network of integrated protocols and financial vehicles, from lending and borrowing platforms to stablecoins pegged to fiat currency and tokenized Bitcoin on Ethereum.
Typically, when people talk about dividends, it’s in the context of stock investments. Depending on the company’s profit-sharing policies, when you purchase shares of its stocks or bonds, you may receive a regular amount of money every quarter or year in the form of a dividend. An established company pays dividends on a consistent basis. These include American Express, Target, AbbVie, Kimberly-Clark.
Long-term investors tend to employ a dividend-reinvestment strategy (DRIP) if they want to earn passive income from their capital. A dividend reinvestment plan is a great way to grow your wealth and passive income over time.
One of their great advantages is that if you let your dividends paid accumulate over time, they will experience compound growth. Many brokerages and companies allow DRIP investors to automate this process, making it an easy and cost-effective way to achieve those compounding returns.
Does Cryptocurrency Pay Dividends?
Crypto dividends are rewards you can earn for holding crypto or performing a specific action with digital assets. They are ways to get paid in the native token instead of cash or stocks. You can think of these “crypto dividend” methods as making the most of a bet on the future success of a cryptocurrency and the asset class in general.
While cryptocurrencies do not pay dividends like companies, there are many opportunities to earn additional income — beyond just holding the coins. However, these methods may be a bit more unconventional from their stock dividend counterparts.
How to Earn Cryptocurrency Dividends
The technology powering cryptocurrencies allows for an array of powerful and incredibly flexible investment opportunities. Here are some of the most popular ways of earning dividends in the crypto space:
1. Crypto Staking
Some people consider staking as a form of cryptocurrency dividend payment. Staking helps maintain a cryptocurrency’s network by verifying the transactions on the blockchain and maintaining its security. By staking tokens, you receive a percentage-based reward for your continued contribution. For instance, I stake on the Solana (SOL) network and earn 5-7% APY for staking my coins on the network.
If this sounds like receiving a dividend from a stock investment — you’d be right. Crypto staking is the method that’s most similar to dividend investing with stocks.
Staking tokens is possible through the “proof-of-stake” (PoS) consensus mechanism, which requires a certain percentage of the token’s holdings to be kept on the blockchain. This mechanism is different from proof-of-work systems like Bitcoin, which require miners to solve difficult mathematical problems. Proof-of-stake systems require proof of ownership of a certain amount of capital but do not require a large amount of power to run.
With staking, the locked tokens force network participants, or validators, to act honestly and for the good of the network. By staking, a person no longer has the incentive to attack the blockchain as it goes against their interests. If a malicious attempt is made, the token price could fall and the network would punish the malicious party.
2. Crypto Yield Farming
Yield-farming is a term for using a combination of multiple ways to earn yield in crypto, whether those methods involve staking, lending, etc. Yield farming is similar in concept to having an investment portfolio that is made to earn a certain expected return (e.g., 10% a year).
It is popular on the Ethereum network (especially with ERC-20 tokens), but has grown in adoption across other smart contract platforms (SCPs) like Solana and Avalanche. Some yield farming protocols span multiple chains, allowing a user to participate in the most lucrative opportunities — a key hallmark of the emerging DeFi 3.0 space.
The first step in yield farming involves depositors sending their funds to a liquidity pool, which is a funding source that provide the assets needed to execute a trade, such as to exchange tokens. Liquidity pools are executed as smart contracts and hold funds. Usually, the funds are stablecoins tied to U.S. dollars or Euros. You are paid a portion of its fees as a proportion of the amount invested for contributing to a liquidity pool.
3. Crypto Lending and Borrowing
Some investors choose to lend or borrow their tokens to generate a profit. Usually, people lend their BTC, ETH or stablecoins to a lending service in return for weekly or monthly dividends. Interest rates depend on the platform and market environment but can have varied between 3 – 8% and have even come up to 20% APY.
There are two main types of crypto lending platforms: decentralized and centralized crypto lenders. Users typically need to deposit crypto collateral to borrow either cash or crypto (collateralized loans), though other loan options include crypto lines of credit, uncollateralized loans, and flash loans.
Crypto lending and borrowing work similarly to traditional financial institutions, but with one major caveat – your assets are not FDIC-insured or regulated. U.S. bank deposits are protected by the Federal Deposit Insurance Corporation for up to $250,000 per account, so you can rest assured that your money will be safe.
If something goes wrong with the crypto lending platform, you may end up losing all of your crypto. Over the last few months, several high-profile crypto lending platforms and exchanges, including Celsius Network, BlockFi, FTX, Voyager, Hodlnaut, among others, filed for bankruptcy due to unsustainable and irresponsible lending practices. As a result, I, along with many other crypto investors, lost a significant amount of money.
4. Crypto Savings Account
Some online cryptocurrency platforms offer a crypto savings account, similar to a high-yield savings account, that lets you earn relatively high-interest rates. Be wary as now-bankrupt crypto lenders such as Celsius Network branded their lending accounts as “crypto savings accounts” to deceive users of the risks they were taking on.
That said, there are still options that offer reasonable rates you can take advantage of. Some of the largest cryptocurrency brokerages have partnered with banks to offer both traditional bank-like services and cryptocurrency brokerage services. For example, Coinbase, a cryptocurrency exchange, offers a savings account with 4% APY on USDC.
Note that similar to crypto lending and borrowing, crypto savings accounts are typically not FDIC-insured. Make sure to conduct your own research on the companies and tokens before deciding to deposit your funds onto their platforms.
5. Crypto Airdrops
A cryptocurrency airdrop sends coins to wallet addresses that meet certain conditions, such as having X amount of a prior existing coin or tweeting a company’s message. A small quantity of the new virtual currency is sent to the wallets of active members of the community for free.
Airdrops are a common marketing strategy to publicize a project or spur user growth or increase investment. The ultimate end is to get the coins in users’ hands so they can circulate and be used.
To qualify for an airdrop, recipients usually need to hold a minimum quantity of the native tokens in their wallets or perform a certain task. You may also earn referral bonuses or finder’s fees if you recruit others to the project or actively participate in the community.
6. Crypto Mining
Another way to earn crypto “dividends” is to mine cryptocurrencies. For example, mining bitcoin involves using special software that solves complex mathematical problems to verify each block of transactions added onto the blockchain. The solving of this complex math problem is a competitive process between the “miners” as each employs their computer network to be the first to solve for a unique prime number. The first miner that solves the problems correctly receives new coins and transaction fees as rewards.
Early miners could mine using only their personal computer’s CPU or GPU, most miners today use specialized hardware known as an ASIC (Application Specific Integrated Circuit) to stay competitive. Alternatively, you could join a mining pool using your personal computer. These pools are groups of minors that collaborate to combine their computing power and compete with ASIC mining farms. Be wary as mining on your personal computer could burn out your system or expose it to malware.
Know that mining is most profitable in countries with low electricity costs and low taxes. Mining requires large amounts of computing power and electricity so it can be costly in certain circumstances to do so on a consistent basis. It may also be illegal in certain countries.
7. Cloud Mining
Unlike mining cryptos on your computer or as part of a pool, mining on a cloud service is easier. You do not need to own the hardware or set up mining rigs to get started. Instead, you can use cloud miner services such as HashFlare or Genesis Mining, which will provide you with a cloud-based mining contract that lets you buy mining power at a level that meets your needs.
Like traditional mining, cloud mining contracts last for specific periods. However, they vary in length, so you can choose the one that’s right for you. All cloud mining contracts have an exclusivity period, meaning you have to use the mining power of that specific vendor and not use another for the specified period.
However, cloud mining contracts let you cash out at the end of a contract period. Many cloud miners let you trade your mining power and contracts on an exchange, so you can cash out and take profits when you want.
8. Running Lightning Network Nodes
The Lightning Network is an off-chain solution that has been scaling Bitcoin’s transactions throughout, allowing it to process them faster and cheaper. Bitcoin can only process 7 transactions per second (tps), but with Lightning Network it could do 1 Million tps. Lightning Network nodes are an increasingly important part of Bitcoin’s infrastructure. As an off-chain solution, they manage most aspects of the transaction process, except for the final settlement — which happens on-chain.
When you run a lightning node, you contribute to the network and have the opportunity to earn sats (fractions of bitcoin) by routing payments and maintaining liquidity on the network.
If you’re interested in earning bitcoin but don’t have the technical knowledge to set up a bitcoin node on your computer, you can rent a lightning node from a number of companies, such as Bitnoder and Voltage. These companies will provide reliable hosting environments for your lightning node and ensure that it runs 24/7.
Cryptocurrency Trading vs Cryptocurrency Dividends
Trading is about buying and selling assets, such as stocks or cryptocurrencies, in the hopes of making a profit. On the other hand, “crypto dividends” involve using your tokens to earn passive income — mainly in the ways we’ve outlined above.
Crypto trading can be more profitable but comes with more risks and trading fees…and tax complications. You could make a lot of money if you know what you’re doing, but you could also lose everything if you do not know how to navigate the markets. With crypto dividends, you may not make as much money, but your investment is less likely to go to zero.
Each investor must decide which approach is right for themselves. Some people prefer the exciting, fast-pace of trading and are open to the risk they take on. Others may prefer the more stable earning of crypto dividend payments and are happy with slower investment growth for a more consistent way of earning passive income.
Tax Implications to Consider
Anything involving crypto carries unique tax implications. Similar to taxes on capital gains from the stock market, you will likely need to pay for earning “crypto dividends.” If you are in the U.S., you likely need to pay income taxes proportional to your tax bracket — unless a dividend paid comes from long-term (1 year or more) activities.
Any gains or losses from the sale of cryptocurrency are considered taxable income. That means that if you sell your crypto for more than you paid for it, you will owe taxes on the difference. Additionally, if you receive cryptocurrency as a payment for an activity, like running a Lightning Network node, you will have to pay taxes on that income.
The Bottom Line
Earning a return on your crypto is still a relatively new field within DeFi and the wider Web3 ecosystem. Participating in it comes with higher levels of volatility than other financial investments. So, does cryptocurrency pay dividends?
Yes, cryptocurrency can pay dividends in novel ways that suit this new technology and its emerging ecosystem.
Before making any investment decisions, make sure to conduct due diligence on the crypto tokens, crypto firms, transaction fees, market cap, etc. to get a better sense of what you’re getting yourself into.
*Special thanks to Annie Zhou for co-writing this article.*