Crypto & Student Loans — What to Know

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Stanley Tate

#1 Student Loan Lawyer

Updated on October 6, 2022

You can borrow against your crypto holdings to legally avoid taxes and pay off your student debt using DeFi loans. Some people invest student loan overages in crypto (though it’s not strictly allowed).

Both of these practices are risky. Bitcoin, Ethereum, Solana, and other cryptocurrency tokens using blockchain technology have seen astounding gains — but also unbelievable losses. Crypto is a riskier investment than traditional asset classes like stock trading.

If you’re willing to take on that risk, keep reading to learn the basics of using crypto to pay off student loans in a lump sum.

I have worked with cryptocurrency experts to ensure that this information is accurate and up to date. Combining their expertise with my knowledge about student debt and taxes, this article contains what you need to know about cryptocurrency and student loans.

Disclaimer: Although I am a student loan lawyer and have worked with crypto experts on this subject, the article below is for informational purposes only and should not be taken as legal advice or financial advice. 

Can you use crypto to pay off student loan debt?

You can use cryptocurrency assets to pay off student debt. There are two ways: easy (selling your crypto) and better (borrowing against your crypto holdings).

Selling crypto to pay your student loans

You can sell off your crypto holdings and use that money to pay off student loans. However, selling crypto holdings will set off a tax bomb.

If you sell crypto holdings within one year of purchase, your gains are subject to regular income tax. This is typically higher than capital gains tax.

If you sell crypto holdings more than one year after purchase, your gains will be subject to the capital gains tax.

Borrowing a DeFi loan against your crypto holdings

You can borrow against your crypto holdings using a DeFi (Decentralized Finance) loan. You avoid a tax bomb, and the interest rates are usually lower than loans from traditional financial institutions.

Can crypto be used as collateral for a loan? Yes, you can use crypto as collateral for a DeFi loan.

How DeFi loans work: You can borrow 25%-50% of the value of your crypto holdings using a DeFi loan. Interest rates are typically low, and there is no taxable event. Here’s the problem: The risk is high if your crypto loses too much value.

DeFi loans do not consider credit score/history or debt-to-income ratio, just the current value of your holdings used as collateral.

These can act as refinancing loans toward student debt, credit card debt, personal loans, or anything you need to refinance.

How to get a DeFi loan:

  1. Decide which tokens or stablecoins you want to stake and borrow against. For some DeFi loans, you may be able to stake multiple crypto coins.

  2. Identify the DeFi platform/exchange where you’d like to take out the loan.

  3. Connect a conventional bank account to an exchange like Coinbase. You’ll need to choose an exchange with a KYC (know your customer) onboarding process.

  4. Then connect your exchange with a browser wallet, such as MetaMask or Phantom’s wallet.

  5. On a DeFi platform, stake your desired token(s).

  6. You will likely receive the borrowed amount in stablecoin (like USDC). Send that stablecoin from your browser wallet to an exchange like Coinbase.

  7. From the exchange, you should be able to convert the stablecoin into fiat currency, such as the US dollar (USD).

  8. Send the fiat money to your conventional bank account from an exchange like Coinbase.

Advantages of DeFi loans

What is the advantage of using crypto as collateral for a loan? The benefits of DeFi loans where you use crypto as collateral are:

  • Lower interest rates than conventional loans

  • No taxable event, as opposed to simply converting crypto to cash

  • More untaxed liquidity

  • No credit check required

  • Decentralized finance isn’t controlled by corrupt legacy banks or governments

Risks of DeFi loans and crypto investing

The primary risk of DeFi loans and crypto investing is the market’s volatility. Cryptocurrency goes through very high highs and very low lows. Even a high-profile digital currency like Bitcoin (BTC) can lose its value in a matter of months.

DeFi loans are high risk. If your crypto assets drop below a specific USD value (predetermined by your smart contract), you may automatically lose your crypto asset to the lender.

In certain situations, you may be able to pay off the loan in full right away to avoid losing your crypto. These terms will be decided in the smart contract you agree to.

Learn More: Ways to Lower Student Loan Payments — Federal & Private

Should you use student loans to invest in crypto?

It is technically against the rules to spend an overage from student loans in investments or cryptocurrency. That being said, how student loans are spent is not monitored.

Reminder: This is not legal advice. This is not investing advice. This is only general information.

Investing your student loan overage is a legal and moral gray area. You might be able to justify investing loans if you intend to only use the investments for student loan repayment.

Some private student loans may not require the funds to be used on education expenses, but every private loan is different.

If your school discovers you misused student aid, it may report you to the U.S. Department of Education, which may demand the loan amount back in full.

According to a 2018 study by The Student Loan Report, more than 1 in 5 American college students with student loans used financial aid money to invest in the crypto market. In general, these students hope that this personal finance risk will pay off in growth by the time their student loans come due.

Do crypto holdings affect financial aid?

Your crypto holdings affect your eligibility for financial aid for higher education. Cryptocurrency counts as an asset, which could reduce the federal student loans you qualify for.

When filling out the FAFSA (Free Application for Federal Student Aid), you must list your income and assets, including investments and crypto holdings.

There is no maximum limit on income and assets when qualifying for student aid — particularly unsubsidized student loans. This makes it difficult to assess the value of crypto holdings that will negatively impact your financial aid eligibility.

If you’re an independent student making below $27,000 a year, you likely qualify for most federal student loans. Crypto assets could increase your expected contribution and lower your eligibility.

If you’re a dependent, whoever claims you on their taxes will enter their income and assets (as well as your own, if any) into the FAFSA to determine your eligibility for financial aid.

Should you invest money in crypto or pay off your student loans first?

To decide if you should invest in crypto or pay off loans, determine which of the following is higher:

  • the interest rate on your student loans, or

  • the expected return on your crypto investments, minus either the tax on the gains or the interest rate on the DeFi loan that you may borrow against the crypto assets

If student loan interest rates are higher than your expected return, pay off your loans first.

If your expected return on crypto is higher than the interest rates, invest in cryptocurrency.

But as always, cryptocurrency investments are volatile. There is no guarantee that you will make money and a high probability that you could lose some or all of your investment. (And that doesn’t even touch on the potential for fraud within cryptocurrency investing.)

Read Next: Can You Get a Discount For Paying Student Loans In Full?

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