Are Crypto Loans Taxable? Borrowing and Liquidations

The appeal of borrowing against crypto is straightforward: you get liquidity without selling, and without selling there is no disposal and no tax. That is broadly right, and it is also where the analysis usually stops, which is why people are surprised by what happens next.

Taking the loan

Receiving loan proceeds is generally not income, because you have an obligation to repay. Pledging crypto as collateral is generally not a disposal, because you have not transferred beneficial ownership, you have granted security.

Both of those depend on the arrangement actually being a loan. Read what the platform does with your collateral. Terms that permit the lender to use, lend on or rehypothecate the collateral push toward an argument that ownership moved, and an arrangement that transfers ownership outright with a promise to return equivalent assets is a different transaction from one that takes security over assets that remain yours.

Liquidation is a disposal

This is the item that is not ambiguous and is nonetheless routinely missed.

When your collateral is liquidated, it is sold. A forced sale is a sale. You realise gain or loss measured against your basis in the units liquidated, and short term treatment applies at ordinary rates up to 37% if held one year or less, with 0%, 15% or 20% beyond that.

The scenario that catches people is a liquidation on collateral that had appreciated a great deal. You lose the position, you receive nothing, and you have a taxable gain, because the gain accrued over the whole holding period and the liquidation is what realised it.

Repaying with appreciated crypto

If you borrowed a stablecoin and repay it with the same stablecoin, there is little to say. If you repay a crypto denominated loan using coins that have appreciated since you acquired them, you have used those coins to settle an obligation, and using crypto to pay for something is a disposal. This shows up most often in DeFi where the borrowed asset and the repayment asset are volatile.

DeFi receipt tokens

Lending protocols typically issue a token representing your deposit. Whether depositing into the protocol and receiving that token is itself a disposal is the same unsettled question that liquidity pool deposits raise. There is no authority resolving it specifically. Take a defensible position, apply it consistently, and keep records that support either treatment.

Interest earned on lent crypto, whether paid in tokens or accrued into a rebasing balance, is income at its value on receipt, and that value becomes your basis in those units.

Interest you pay

Whether interest paid on a crypto loan is deductible depends on what the borrowed funds were used for and on your circumstances, and personal interest is generally not deductible. Investment interest and business interest have their own rules and limits. This is fact specific and worth confirming rather than assuming.

What to record

• Loan origination, amount, asset, and the collateral pledged with its units and basis.
• Every collateral top up and withdrawal.
• Every liquidation, partial or full, with the units, the price and the timestamp. Partial liquidations are easy to miss because the position survives.
• Interest paid and received, with values at the time.
• Repayment, including which units were used.

Our DeFi tax guide covers lending protocols and receipt tokens, and US crypto tax covers the rates a liquidation gain lands at.

General information, not tax advice. Rules change and depend on your circumstances. Confirm the current position with the relevant tax authority or a qualified tax professional.