Cryptocurrency savings accounts have grown in popularity among investors looking to earn a yield on their long-term crypto holdings. While these investment vehicles are not without risk, they enable investors to earn above-average yields, making them alluring to a range of different investors.
In this guide, we will explain how crypto savings accounts work and why you might want to consider setting one up.
What is a Crypto Savings Account?
A crypto savings account is a saving offering that allows you to deposit your crypto assets and earn interest. Similar to regular savings accounts, the interest is paid out periodically, and you can withdraw your assets depending on the platform rules and the type of crypto you deposit.
Most blockchain networks offer a staking return (technically, it is no yield because staking yields mainly derive from network issuance), thereby paying something similar to interest to native token holders. Several centralized crypto exchanges (CEXs) capitalize on this by offering interest-bearing accounts. To generate returns, they use a variety of methods besides staking your crypto.
Alternative strategies consist of depositing your crypto in CeFi lending pools or providing liquidity to trading pools that power DeFi protocols like decentralized exchanges (DEXs).
Crypto savings accounts use the returns from these activities to pay you regular interest on your crypto deposits.
How Crypto Savings Accounts Work
A crypto savings account offers a superior user experience in contrast to complicated blockchain protocols. As such, they offer an easy way for you to onramp into the crypto ecosystem and earn interest through centralized platforms, unlike the convoluted onboarding process common in DeFi protocols or native staking strategies to have users directly interact with the blockchain itself.
While most DeFi protocols offer greater returns compared to crypto savings accounts, many users deem them to be cumbersome because interacting with them is a rather unfamiliar practice. Conversely, crypto saving accounts enable you to interface with DeFi protocols through an app or CeFi platform, which makes it look a lot easier.
The benefit of using crypto savings accounts over a DeFi protocol is the convenience offered by the former. The key advantage offered by companies behind crypto savings accounts is that they handle some of the risks of placing your funds within DeFi protocols or public blockchains for staking.
Some of these companies have agreements in place to pay customers first should they become insolvent, while other companies insure customer deposits and work with reputable custodians.
However, as we have seen in 2022, there are also companies that will take user funds in the case of insolvency, which poses the main risk for crypto savings account holders.
As we mentioned in the first section, crypto savings accounts will use the deposited funds to participate in the staking of tokens, provide liquidity to automated market maker protocols or engage in lending activities. The interest payable in exchange for locking your crypto savings is in crypto and is typically subject to a variable rate. While the interest earned is variable, you are usually assured a fixed minimum percentage rate as a return.
Types of Crypto Savings Accounts: Where Does The Yield Come From?
There are two main types of crypto savings accounts: flexible and fixed-rate accounts.
Flexible Cryptocurrency Savings Accounts
Flexible (or variable-rate) crypto savings accounts are flexible and allow you to deposit or withdraw your crypto assets at any moment in time. These accounts have no lock-up period. Interest is often calculated daily or weekly. However, the trade-off for these types of accounts is the fact that the interest rates are usually lower.
Fixed Cryptocurrency Savings Accounts
Fixed crypto savings accounts lock your funds for some time. Locked savings usually have a vesting period ranging from 7 to 120 days. After the lock-up period is over, you can redeem your funds (the principal) and interest or proceed to reinvest for extra fixed-interest periods.
Are Crypto Savings Accounts Worth the Risk?
Some crypto savings accounts allow you to earn up to 8% APY or more on your savings. However, these types of accounts are not without their risks.
While the level of risk associated with these accounts doesn’t necessarily make them a bad product, you are advised to be aware of all the risks before you set up a savings account and start using it.
An obvious risk is that crypto savings accounts usually don’t come with state-regulated deposit insurance. With traditional savings accounts, customers’ deposits are protected, and should a financial provider become insolvent, regulators will step in to make sure a portion of the loss is covered on behalf of customers. For instance, the Federal Deposit Insurance Corporation (FDIC) protects US customers on up to $250,000 in the case of a bank collapse.
Such guardrails do not exist for crypto assets as of now. If the company doesn’t provide you with the private keys for the wallet holding your savings, you run the risk of losing your funds in the event the respective company goes under.
Giving up control of your crypto assets to a third party is a major concern, as recent incidents across the crypto world have shown. Essentially you are relinquishing your private keys to another party. If that party managing your crypto savings account lends the money to other counterparties and then happens to default on payments, you stand to lose a portion or all of your digital assets.
Another concern is price volatility which may affect your crypto holdings in savings accounts. If you deposited digital currency like bitcoin (BTC) and ether (ETH) in your crypto savings accounts, then the total principal, as well as the return payments, will fluctuate according to market conditions. On the other hand, if the balance and interest are paid in a dollar-denominated stablecoin, then it is easy to keep tabs on the interest payments.
Usually, traditional savings accounts allow you to withdraw your money at your discretion. Every now and then, some crypto-savings accounts limit your withdrawals, allowing you only to take money from your accounts at specified intervals. Moreover, some crypto savings accounts will charge you for withdrawals. And should a crypto savings account provider get in trouble, they may permanently stop withdrawals.
So what does all this mean for you as an individual investor?
Despite the risks, crypto savings accounts offer you the potential to get returns on your crypto assets. This is especially true if you lock up your crypto or choose a native token of a crypto exchange or crypto savings account provider.
For example, Nexo increases interest up to 4% APY for holders that want to get the returns in their NEXO token. Crypto exchanges like Binance and Crypto.com also offer you higher interest rates if you lock away tokens in your savings accounts and denominate the returns in their token.
Despite the prospects, you should only really open a crypto savings account at a platform you are comfortable with, that has been around for a while, and has a solid reputation. You should also read through the terms and conditions to see if the provider might have insurance for your deposits. More importantly, only invest what you can afford to lose because crypto savings accounts are far from risk-free.