What Is a Decentralized Exchange (DEX)?

What Is a Decentralized Exchange (DEX)?

A decentralized exchange (DEX) is a digital currency exchange that allows users to buy crypto through direct, peer-to-peer cryptocurrency transactions, all over a online platform without an intermediary. It differs from a traditional centralized exchange, where a typical transaction involves a third-party entity (e.g. bank, trading platform, government institution, etc.) that takes custody of user funds, and oversees the security and transfer of assets between two parties.

Decentralization is a fundamental philosophy of blockchain technology and the crypto space. It redistributes authority from a central power, and places it in the hands of users. And the concept of decentralization is reengineering how many conventional financial services operate.

Decentralized exchanges have also grown in popularity over the past couple of years, with spot trading volume slowly shifting away from centralized exchanges, up until early 2022, when “crypto winter” set in.

Spot Trading Volume Percentage, DEX vs. CEX
Timeframe

CEX

DEX

January 2020 98.93% 1.07%
June 2020 97.01% 2.99%
January 2021 93.22% 6.78%
June 2021 93.2% 6.8%
January 2022 77.08% 22.92%
June 2022 82.93% 17.07%

How a Decentralized Exchange (DEX) Works

Decentralized exchanges provide a decentralized platform that allows users to exchange assets without having to trust their funds with another entity.

With a decentralized exchange, a blockchain, or distributed ledger, takes the place of the third party. By moving critical operations onto a blockchain, the underlying technology may help to eliminate single points of failure, allowing users to have greater control of their assets, and support safer and more transparent trading.

DEXs use smart contracts to execute market transactions by allocating transactions’ operations to autonomous code, but there are multiple variations of order fulfillment with differing degrees of decentralization.

Like digital currencies, decentralized exchanges were created in response to flawed and archaic financial systems that passed along risks of a centralized system to its users. Those risks often include insufficient security, technical issues, and a lack of transparency.

💡 Recommended: Crypto Guide for Beginners

Different Types of Decentralized Exchanges

Full decentralization is more of a philosophy than a rule of thumb, as it’s not very practical based on first-layer blockchain scalability limits. As a result, most decentralized exchanges are actually semi-decentralized, using their own servers and off-chain order books to store data and external programs or entities for the exchange of user assets.

Due to this reliance on centralized components, semi-decentralized exchanges’ operations may be subject to government oversight. However, and perhaps most importantly, users still maintain control of the private keys to their funds.

Although DEXs continue to evolve and operate cross-chain with other DApps, DEXs typically operate a single blockchain. One thing all decentralized exchanges have in common is that they execute orders on chains with smart contracts, and at no point do they take custody of users’ funds.

The Different Types of DEXs
Type

Features

On-Chain Order Books Processes transactions on a blockchain network, without the inclusion of a third-party
Off-Chain Order Books Utilizes an off-chain, centralized entity to process transactions and govern the order book
Automated Market Makers Uses algorithms to automatically price asset pairs in real-time
DEX Aggregators Compile data from numerous DEXs to increase options and liquidity for traders

On-Chain Order Books

For some decentralized exchanges, transactions are processed on-chain, including modifying and canceling orders. Philosophically, this is the most decentralized and transparent process, because it circumvents the need to trust a third party to handle any orders at any time. However, this approach is not very practical in execution.

By placing all stages of an order onto the blockchain, DEXs go through a time-consuming process of asking every node on the network to permanently store the order via miners, as well as pay a fee.

Some criticize the decentralized crypto exchange model because its slow transaction times allow for front-running, which is when an investor watches the price of an asset closely, waiting at the last minute to buy or sell right before they anticipate the price rising or falling. (Note that this type of “front-running” is different from stock front-running, where an investor purchases a security based on insider information, such as a future event that will impact stock price.)

Others counter that since all orders are published on a public ledger, there is no exclusive opportunity for any select individual to front-run from a traditional perspective. However, it has been questioned whether a miner can front-run by noticing an order before it’s confirmed and force their own order to get added to the blockchain first.

Off-Chain Order Books

DEXs with off-chain order books are still decentralized to some degree, but are somewhat more centralized than their on-chain counterparts. As opposed to orders being stored on the blockchain, off-chain orders are posted elsewhere, such as a centralized entity that governs the order book. Such an entity could exploit access to the order books to front-run or misrepresent orders, however, users’ funds would still be protected from the DEXs non-custodial model.

Some ERC-20 tokens on the Ethereum blockchain provide a DEX that operates similarly. Though some degree of decentralization is sacrificed, a DEX can provide a framework for parties to manage off-chain order books through smart contracts. Hosts can then access a larger liquidity pool and relay orders between traders. Once the parties are matched, the trade can be executed on-chain.

These models can be more advantageous for users than relying on slower on-chain order books. With less congestion and quicker confirmation times caused by primitive blockchain iterations, off-chain order books can provide faster speeds.

Automated Market Makers (AMM)

An automated market maker (AMM) reinvents order books with pricing algorithms that automatically price any asset pairing in real-time (e.g. Bitcoin-U.S. dollar).

Unlike traditional market-making, whereby firms provide an accurate price and a tight spread on an order book, AMMs decentralize this process and allow users to create a market on a blockchain. No counterparty is needed to make a trade, as the AMM simply interacts with a blockchain to “create” a market. Instead of transacting directly with another person, exchange, or market-maker, users trade with smart contracts and provide liquidity. Unfortunately, there are no order types on an AMM because prices are algorithmically determined, resulting in a sort of market order.

As with other DEX models, an on-chain transaction must occur to settle any trade. As opposed to some DEXs, AMMs tend to be relatively user-friendly and integrate with popular cryptocurrency wallets.

DEX Aggregators

DEX aggregators are precisely what they sound like: aggregators that compile various trading pools. Their main advantage is that they can increase liquidity for traders, particularly for those who are looking to expand their options or trade smaller tokens.

How these aggregators work is similar to a search engine, in that they compile and accumulate information and data from different exchanges to give users more options.

Tips for Using Decentralized Exchanges

Using a DEX has its advantages and risks. While you’re likely using a DEX for its advantages, it’s important to keep those risks in mind. Perhaps most importantly, remember that decentralized exchanges are, for all intents and purposes, operating off the radar and outside of regulatory authorities.

Also remember that as the popularity of DeFi as a whole grows, so too will the use of DEXs, and their features and functions. These are changing platforms and technologies, so do some research to make sure you know what you’re doing, and that you’re keeping your keys, phrases, and assets safe.

Pros of Decentralized Exchanges

There are many reasons fans and followers of crypto have embraced decentralized exchanges. These are some of the pros of decentralized exchanges:

No KYC/AML or ID Verification

DEXs are trustless, meaning users’ funds, privacy, and limited personal data are well preserved. Decentralized exchange users can easily and securely access a DEX without needing to create an on-exchange account, undergo identity verification, or provide personal information.

No Counterparty Risk

Because users don’t have to transfer their assets to an exchange (or third party), decentralized exchanges can reduce risks of theft and loss of funds due to hacks. DEXs can also prevent price manipulation or fake trading volume, and allow users to maintain a degree of anonymity due to a lack of Know Your Customer (KYC) cryptocurrency rules and regulations.

All Tokens Can be Traded

With a DEX, users can trade new and obscure cryptocurrencies that may be difficult to exchange elsewhere. Typically, centralized exchanges only support a dozen or so projects, and most only support the most popular cryptocurrencies, making smaller and less popular tokens more difficult to trade, especially as those exchanges restrict users from other countries.

Reduced Security Risks

As mentioned, decentralized exchanges may be more secure than their centralized counterparts. That’s because no single entity is in charge of assets, and instead, smart contracts and decentralized applications (dApps) automate transactions. It’s all handled by users, in other words, making it very difficult for a hacker or bad actor to infiltrate a centralized pile of assets and steal them.

That said, a bad or poorly developed smart contract could cause issues, which is something to be aware of.

Utility in the Developing World

Many parts of the world lack basic financial services, nevermind access to the crypto markets. That’s another pro for DEXs, which can be used by individuals anywhere in the world regardless of financial infrastructure.

In fact, DEXs may be the most beneficial to users in the developing world, giving businesses a way to transact assets without the need for a third party, where those parties may not be available or willing to operate.

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Cons of a Decentralized Exchange

While decentralized exchanges offer some groundbreaking benefits, they also come with a few drawbacks.

Specific Knowledge Is Required

There’s no getting around it: You’ll need to know what you’re doing, at least to a degree, to use a decentralized exchange. Centralized exchanges exist for a reason: They’re relatively easy to use, and handle most of the complicated stuff for users. But when using a DEX, it’s all on the user. There’s no hand-holding, and as such, you’ll want to be confident that you know the ropes before using a DEX.

Smart Contract Vulnerabilities

Another thing we previously mentioned is the fact that smart contracts may be poorly constructed, leading to problems on a DEX. A smart contract is only as smart as the person or entity that created it, and there’s no guarantee that it will work as hoped all of the time.

Smart contracts themselves are similar to bits of code or commands that automate a process, and if there’s an error in the smart contract, it could produce unanticipated results.

No Recovery Ability

Unlike centralized exchanges run by private companies with employees, DEXs fundamentally have no recovery ability for lost, stolen, or misplaced funds. Due to a lack of a KYC process or ability to cancel a transaction in the event of a compromised account or loss of private key, users are unable to recover data or be returned their assets.

As discussed, there is no support team or help hotline to notify of missing funds or a lost private key, as users themselves are in control of the process. Because all transactions are processed and stored in smart contracts on the blockchain without any owners or overseers, refunds are incompatible with the network’s model and users are generally unable to regain access to their assets.

Unvetted Token Listings

The crypto space is rife with scams and junk tokens, and given that there’s no central authority in a DEX, it’s relatively easy for some of those junk tokens or coins to find themselves in the listings. Put another way: There is little or no vetting process for what’s listed on a DEX (though it may differ from exchange to exchange). Making sure you’re not falling for a scam coin, then, is on the user.

Low Liquidity

Many traders prefer centralized services with a greater liquidity pool, choice of instruments, currency pairs, and order types. Decentralized exchanges usually have lower liquidity than centralized platforms because they are newer and smaller, with a smaller potential client base (since DEXs are more difficult to use than CEXs). Yet, paradoxically, they must also attract new users to generate more liquidity.

Limited Speed

Transactions take time to be checked and validated on a blockchain network, and the processing speed depends on the network’s miners or validators, not the exchange itself.

Limited Trading Functionality

Decentralized exchanges tend to focus on executing simple buy and sell orders. As such, users may find advanced trading functions such as stop losses, margin trading, and lending are unavailable on most DEXs.

Scalability Issues

DEXs have suffered from the same network congestion issues relating to scalability issues as their underlying blockchain networks like Ethereum. Ethereum’s first network iteration, like other blockchains, was built to function securely at a smaller scale before scaling solutions were later implemented. Though a transformative network upgrade designed with massive scalability solutions has been in development since 2018, DEXs remain subject to first-layer network transaction ceilings.

Challenges to DEX Adoption

With sophisticated technology, potentially fewer blockchain security risks, and the ability to self-custody funds, further adoption of decentralized exchanges seems likely. But DEXs, for the most part, remain out of the mainstream. Despite the launch and rise in popularity of numerous DEXs within the past few years, some factors may slow down adoption.

Many investors may lack awareness surrounding:

•   The security risks of centralized exchanges

•   Self-custody as a security option

•   How to securely self-custody funds (managing private keys)

•   The existence of decentralized exchanges

•   The advantages of decentralized exchanges

DEXs also present a few technical barriers to entry:

•   Not user-friendly enough

•   Network congestion during periods of high volume

•   Transactions on current network iterations take time to be validated on blockchains

•   High transactions fees during periods of high volume

•   Users will only join a DEX with high liquidity

•   Cross-chain interoperability must exist for DeFi platforms to interact with each other

•   The need for fiat on-ramps and less volatile token prices

The Takeaway

Decentralized exchanges are a trustless solution that allows users to buy and sell cryptocurrency without roping in a third party. Though full decentralization is not yet a reality, different types of DEXs provide varying levels of security, privacy, and efficiency from which crypto traders can choose.

As DEXs continue to develop, evolve, and become more practical for users, user adoption may become a focal point as DEXs look to offer greater liquidity. The good news is that DEXs present only one of numerous ways to get involved in the crypto space.

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FAQ

How do DEX fees work?

A DEX facilitates peer-to-peer trading, and levies network fees in order to facilitate those transactions. While fees from DEX to DEX may vary, they differ from centralized exchanges, which may charge trading fees or commissions for executing transactions.

What’s the difference between a decentralized exchange (DEX) and a centralized exchange (CEX)?

A decentralized exchange allows individual users to connect and transact assets without a third party. A centralized exchange, conversely, acts as a third party and takes custody of funds or assets during the transaction. The key difference is that a CEX acts as a central authority.

Are decentralized exchanges legal?

Yes, DEXs are legal, though they do operate in something of a gray area (like most of the crypto space) in that they’re unregulated by a central government authority. Some exchanges may be illegal in certain jurisdictions, too. That may change in the future, though, as regulators outline plans and potential rules for the crypto space.

How can I create a decentralized exchange?

If you want to create your own DEX, you’ll need a lot of background knowledge involving blockchain architecture and more. You would need to know how to code, identify key features that your DEX would have, and much, much more. You’re likely better off using an existing DEX, rather than creating one from scratch.


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Crypto: Bitcoin and other cryptocurrencies aren’t endorsed or guaranteed by any government, are volatile, and involve a high degree of risk. Consumer protection and securities laws don’t regulate cryptocurrencies to the same degree as traditional brokerage and investment products. Research and knowledge are essential prerequisites before engaging with any cryptocurrency. US regulators, including FINRA , the SEC , and the CFPB , have issued public advisories concerning digital asset risk. Cryptocurrency purchases should not be made with funds drawn from financial products including student loans, personal loans, mortgage refinancing, savings, retirement funds or traditional investments. Limitations apply to trading certain crypto assets and may not be available to residents of all states.
External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
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Bitcoin Liquidity: How Liquid is Bitcoin?

Bitcoin Liquidity: How Liquid Is Bitcoin?

Bitcoin is a relatively liquid asset, though there are factors that can alter its liquidity at any given time. Bitcoin’s liquidity is usually high as there are a number of established, trusted exchanges on which traders can buy or sell Bitcoin. And given a high number of exchanges trading it, along with the volume of those trades, Bitcoin is generally a fairly liquid asset. Read on to learn more about what makes Bitcoin liquid and more.

Recommended: What Is Bitcoin and How Does It Work?

What Is Liquidity in Cryptocurrency?

Liquidity, as it relates to investing, refers to how easily an asset can be converted to cash — or liquidated — without having an effect on its market price. The easier it is to liquidate something, and the less likely a market participant is to move the price by doing so, the more liquid an asset can be said to be.

Liquidity is often used in reference to investments like stocks. If you were to sell a small number of stocks in exchange for cash, it’d likely be pretty easy, and the markets may not notice at all. But if a “whale” were to sell a huge number of stocks, market makers may notice, and adjust their own behavior, potentially affecting the stock’s value.

Cash is usually considered the most liquid asset of all, while real estate is generally regarded as the least liquid asset class. That’s because selling real estate can take months and involves lots of paperwork, fees, and commissions. Precious metals like gold and silver are also rather illiquid.

💡 Recommended: What Are Considered Liquid Assets?

Is Bitcoin Liquid or Illiquid?

How liquid is Bitcoin? Compared to many other asset classes, Bitcoin could be considered very liquid, at least most of the time.

“Most of the time” is an important qualifier because market conditions are always changing. On an average day, for instance, it can be said that Bitcoin has a high level of liquidity. But during times of crisis and panic selling, or times of euphoria and panic buying, this may be less so — it all depends on market conditions.

The exchange an investor is trading Bitcoin on also matters when trying to gauge liquidity. The more traders and higher volume of an exchange, the greater Bitcoin’s relative liquidity.

Factors That Impact Bitcoin Liquidity

These are a few of the most important variables that can affect Bitcoin liquidity.

1. Volume

Volume, in the financial markets, refers to how much of an asset is being traded within a given timeframe (e.g., daily volume). Greater volume tends to increase liquidity and dampen the effects of volatility. Conversely, lower volume can lower liquidity.

2. Exchanges

Liquidity is integral to how crypto exchanges work. The more trusted exchanges that exist, the more markets there are for people to buy and sell Bitcoin. This translates to greater total volume of Bitcoin being traded, which makes for more liquidity. In the early days of crypto, this was a major obstacle to the liquidity of Bitcoin. But as the crypto space has grown, so has its capacity for trading.

3. Storage

One interesting factor affecting Bitcoin liquidity is how people store their digital assets. This is a factor that is unique to cryptocurrency and doesn’t have much relevance to other assets, like stocks. But because Bitcoin is a scarce digital commodity, the way it is stored matters in relation to liquidity.

People who hold large amounts of Bitcoin tend to be fans of something called cold storage, which involves holding the private keys to a crypto wallet offline. This method is thought to make coins less vulnerable, as they typically cannot be accessed by hackers or thieves of any kind. But if coins are held offline, they are effectively off the market, and therefore reduce liquidity.

Roughly three-quarters of the total Bitcoin supply was illiquid as of the beginning of 2022.

4. Volatility

Liquidity and volatility can be closely related. A lack of liquidity can lead to an increase in volatility if one or more large traders are buying or selling large quantities of assets. Those moves can cause prices to move up or down rapidly if there is a limited supply of an asset on the order books.

When there is a large supply of an asset and many large orders, it takes a greater amount of capital to move the market. At the same time, a spike in volatility can also lead to a drop in liquidity, as panic selling ensues and bid/ask spreads widen.

In general, higher liquidity tends to make for lower overall volatility. This is part of the reason why Bitcoin used to fall or rise by significant percentages, often within a single day. Such moves are less common now, though cryptos remain highly volatile assets.

Determining Bitcoin Volatility

Volatility, to take it back to basics, refers to the price swing for a given asset within a given time frame. In other words, Bitcoin’s volatility would measure how much its value fluctuates on a specific day. The higher the volatility, the more wild or extreme the price swings.

Determining Bitcoin’s volatility involves some rather complex math. In the end, you’re basically calculating Bitcoin’s standard deviation, which measures how far its price moved from the median during a certain time period. If Bitcoin’s price has slowly but steadily gone up over time, you could chart that ascent as a line on a graph — it would deviate on a day-to-day basis from that line, however, as prices rise and fall.

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Can You Liquify Bitcoin?

Yes. There’s enough Bitcoin liquidity for holders to liquify their holdings when needed. Cryptocurrency markets trading hours never stop — traders can buy or sell 24 hours per day, 7 days a week year-round.

In this respect, large market cap cryptocurrencies like Bitcoin and Ethereum are generally very liquid, in that traders can enter or exit positions at any time. The same cannot be said of all the thousands of altcoins, which are less popular and may have little to no liquidity on many exchanges.

In traditional financial markets, like stock markets in the U.S., trades can normally only be executed during the hours of 9:30 am to 4 pm EST Monday through Friday, excluding holidays. Some derivatives, like futures contracts, may have additional trading hours. But for the most part, stock trading only occurs during regular business hours of the time zone in which a stock exchange is located (like the New York Stock Exchange, for example).

As long as entities are buying Bitcoin an investor’s chosen exchange, they should be able to liquify Bitcoin holdings immediately. Some exchanges may simplify this process from the user’s perspective and simply allow users to enter a sell order for a specific amount, while the exchange handles the details on the backend.

💡 Recommended: Bitcoin vs. Ethereum: Major Differences to Know

What Is the Most Liquid Cryptocurrency?

It’s difficult to determine which cryptocurrency, at a given time, is the most liquid. But highly popular cryptocurrencies like Bitcoin and Ethereum are likely near the top of the list.

Bitcoin has the largest market cap of any cryptocurrency with a market cap of about $370 billion (October 2022) which represents more than 41% of the entire cryptocurrency market (a measure called Bitcoin dominance). But as noted earlier, much of this market cap is likely held in cold storage and is therefore illiquid. So, Bitcoin liquidity is not as high as it potentially could be.

The Takeaway

Bitcoin is a fairly liquid asset, which can’t be said about all cryptocurrencies. There are some factors that determine Bitcoin’s liquidity — including trading volume and storage methods — but overall, it’s fairly easy for investors to liquidate their Bitcoin holdings at any time. As such, in terms of what to know before investing in crypto, Bitcoin liquidity certainly ranks high on the list.

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FAQ

What is the total liquidity of Bitcoin?

Roughly three-fourths of the Bitcoin supply was illiquid at the beginning of 2022. That’s largely due to Bitcoin being held in cold storage or offline wallets, and therefore not available to be traded on the markets to willing buyers.

Is Bitcoin easy to liquidate?

Yes, Bitcoin is easy to liquidate, and may be the most liquid of all cryptocurrencies. Bitcoin is easy to liquidate because the crypto markets never close, and because it is a very popular digital asset that always has buyers and sellers looking to trade.

How do you calculate cryptocurrency liquidity?

While there may not be an exact formula or science to calculating liquidity, gauging liquidity involves factors such as a token’s total market capitalization, its trading volume, and its price. Other factors, like exchange availability, are also important.


Photo credit: iStock/Olemedia

SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Crypto: Bitcoin and other cryptocurrencies aren’t endorsed or guaranteed by any government, are volatile, and involve a high degree of risk. Consumer protection and securities laws don’t regulate cryptocurrencies to the same degree as traditional brokerage and investment products. Research and knowledge are essential prerequisites before engaging with any cryptocurrency. US regulators, including FINRA , the SEC , and the CFPB , have issued public advisories concerning digital asset risk. Cryptocurrency purchases should not be made with funds drawn from financial products including student loans, personal loans, mortgage refinancing, savings, retirement funds or traditional investments. Limitations apply to trading certain crypto assets and may not be available to residents of all states.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
2Terms and conditions apply. Earn a bonus (as described below) when you open a new SoFi Digital Assets LLC account and buy at least $50 worth of any cryptocurrency within 7 days. The offer only applies to new crypto accounts, is limited to one per person, and expires on December 31, 2023. Once conditions are met and the account is opened, you will receive your bonus within 7 days. SoFi reserves the right to change or terminate the offer at any time without notice.

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How Do Interest Rates Impact Stocks?

How Do Interest Rates Impact Stocks?

The impact of interest rates and their fluctuations are a fact of life for investors. And there are several ways interest rates can affect the stock market, like how higher interest rates raise the cost of borrowing for consumers and corporations, which can ultimately affect public companies’ earnings. The reality for stock market investors is that even minor adjustments to interest rates can significantly impact their portfolios.

Below is a deeper dive into the effects interest rates may have on stock prices. For context, interest rates are rising to levels the economy hasn’t experienced in decades, thanks in part to the Federal Reserve’s attempts to fight rising prices. Here’s how that could affect stocks.

Interest Rates 101

Who controls interest rates? While many market factors come into play to determine interest rates, the short answer is that the Federal Reserve, or the U.S. central bank, influences rates.

The Fed has a “dual mandate”:

•  Create the best environment for maximum employment.

•  Stabilize prices, or keep inflation in check

One of the tools the Fed has in its toolkit to try to achieve these twin goals is controlling short-term interest rates. This is done by the Federal Open Market Committee (FOMC)–made up of 12 Fed officials–which meets eight times a year to set the federal funds rate, or the target interest rate.

The federal funds rate is the rate banks charge each other to lend funds overnight.

Other factors influence general interest rates, like consumers’ demand for Treasuries, mortgages, and other loans. But when the Fed adjusts the federal funds rate, it has sweeping ripple effects on the economy by broadly changing the cost of borrowing.

💡 Recommended: What Is the Federal Funds Rate?

How the Fed Reacts to Slow Economy

When economic activity in the U.S. is slow or contracting, the Fed may cut the federal funds rate to boost growth. This move, known as loose monetary policy, is one way the Fed attempts to hit the mandate of creating the best environment for maximum employment.

Lower interest rates make it easier for consumers, businesses, and other economic participants to borrow money and get easier access to credit. When credit flows, Americans are more likely to spend money, create more jobs, and more money enters the financial markets.

Recent history bears this strategy out. In 2008, when the global economy cratered, and both employment and spending were in free fall, the Fed slashed rates to near zero percent to make credit easier to get and restore confidence among consumers and businesses that the economy would stabilize. The Fed again cut interest rates in March 2020 to near zero percent to stimulate the economy during the initial waves of shutdowns due to the coronavirus pandemic.

How the Fed Reacts to Hot Economy

Alternatively, if the U.S. economy is growing too fast, the Fed might hike interest rates to get a grip on rising inflation, which makes goods and services more expensive. This is to make borrowing and getting credit more expensive, which curbs consumer and business spending, reduces widespread prices, and hopefully gets the economy back on an even keel.

For instance, in the early 1980s, Fed Chair Paul Volcker jacked up interest rates to above 20% in order to tame runaway inflation; prices were rising by more than 10% annually during the period. Volcker’s interest rate moves were a big reason why the average 30-year mortgage rate was above 18% in 1981.

More recently, the Fed started to raise interest rates rapidly through 2022 to combat rising prices, with inflation rates hitting the highest levels since the early 1980s.

Interest Rates and Markets

Most analysts note that interest rate changes, or the expectation of rate changes, can significantly affect the stock market beyond how rates may impact business and household finances.

Generally, higher interest rates tend to be a headwind for stocks, partly because investors will prefer to invest in lower-risk assets like bonds that may offer an attractive yield in a high-interest rate environment.

But lower rates may make the stock market more attractive to investors looking to maximize growth. Because investors cannot get an attractive yield from lower-risk bonds in a low rate environment, they will put money into higher-risk assets like growth stocks to get an ideal return.

💡 Recommended: Bonds vs. Stocks: Understanding the Difference

When it comes to stock market sectors or industries, the most obvious beneficiary of higher interest rates would be financial services companies. That’s because higher interest rates would mean banks and other loan providers would earn more for the money that they lend out.

Protecting Your Investments From Higher Rates

Fortunately, there are strategies you can use to protect your portfolio – and possibly – add value to it, when interest rates change.

•  Monitor the Federal Reserve and its rates policy. The FOMC meets eight times a year to discuss economic policy strategy. Even if they don’t result in an interest rate change, announcements from the meetings can significantly impact the stock market.

•  Diversify your portfolio. Investors can aim to protect their assets by diversifying their portfolio up front. A portfolio with a mix of investments like stocks, bonds, real estate, commodities, and cash, for example, may be less sensitive to interest rate moves, thus minimizing the impact of any volatile interest rate fluctuations.

•  Look into TIPS. Investing in Treasury Inflation Protected Securities (TIPS) can fortify a portfolio against interest rate swings. TIPS are a form of Treasury bonds that are indexed to inflation. As inflation rises, TIPS tend to rise. When deflation is in play, TIPS are more likely to decrease.

How Interest Rates Affect Consumers

In a period of high interest rates, publicly-traded companies face a potential indirect threat to revenues, which could hurt stock prices.

That’s due to the reduced levels of disposable income in a high-rate environment. Higher rates make it more expensive for consumers to borrow money with credit cards, mortgages, or personal or small-business loans.

Consumers’ tighter grip on their pocketbooks may negatively affect companies, who find it more challenging to sell their products and services. With lower revenues, companies can’t reinvest in the company and may experience reduced earnings.

How Interest Rates Impact Companies

Businesses that are publicly traded can experience significant volatility depending on interest rate fluctuations. For instance, changes in interest rates can impact companies through bank loan availability.

When rates rise, companies may find it more difficult to borrow money, as higher interest rates make bank loans more expensive. As companies require capital to keep the lights on and products rolling, higher rates may slow capital borrowing, which can negatively impact productivity, cut revenues, and curb stock growth.

Correspondingly, companies can borrow money more freely in a lower interest rate environment, which puts them in a better position to raise capital, improve company profitability, and attract investors to buy their stock.

The Takeaway

Changes in interest rates can have far-reaching effects on the stock market. In general, higher interest rates tend to have a dampening impact on stocks, while lower interest rates tend to boost market prices. Higher interest rates effectively mean higher borrowing costs that can slow down the economy and companies’ balance sheets and drag down stock prices. Additionally, higher interest rates can boost the appeal of bonds relative to equities, which also acts as a drag on stocks.

But changes in interest rates don’t have to be daunting. If you want to create a well-diversified portfolio, SoFi can help. With a SoFi Invest® investment account, you can trade stocks, exchange-traded funds (ETFs), fractional shares, and cryptocurrencies with no commissions for as little as $5.

Take a step toward reaching your financial goals with SoFi Invest.


SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
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What Are I Bonds? 9 Things to Know Before Investing

What Are I Bonds? 9 Things to Know Before Investing

Series I Savings Bond rates have been rising in recent months. This is good news for investors, as Series I Bonds currently offer highly competitive interest payments with near-zero risk. For Series I Bonds issued from May through October 2022, the yield (composite rate) was 9.60% for six months after the issue date. So, is now a good time to buy I bonds?

Investors looking for a safe investment with a generally higher interest rate may want to have a look at investing in Series I Savings Bonds, commonly known as I Bonds. I Bonds are similar to most bonds in that they are essentially a loan to an entity (in this case the U.S. government), with the promise to return your money with interest. I Bonds are different in that they may offer competitive returns over time, and some tax breaks as well. Here are nine important things to know before you invest in I Bonds.

9 Important Things to Know Before You Invest in I Bonds

1. I Bonds May Offer a Higher Rate, But Not a Fixed Rate

For those looking for stability and low-risk investment returns, I Bonds may be a good option, but they are not traditional fixed-income securities. I Bonds are a type of savings bond offered by the U.S. Treasury and backed by the full faith and credit of the U.S. government. They are unique in that they offer two types of interest payments: a fixed rate and a variable rate, which together provide the bond’s composite rate.

The fixed-rate portion is determined when the bond is purchased, and remains the same for the life of the bond. The variable rate gets adjusted twice a year (i.e., May and November), based on inflation rates. Investors may hold I Bonds for up to 30 years.

As of November 2022 and through April 2023, the current fixed rate on I Bonds is 0.40%. However, the inflation rate is 6.48% — making for a composite rate of 6.89%. (The formula for the composite rate is a little more complicated than just adding the fixed and inflation rates.)

💡 Recommended: Guide to the Consumer Price Index (CPI): The Inflation Indicator

2. Your I Bond Principal Is Guaranteed

Because I Bonds are backed by the U.S. government they have a low risk of default and offer tax-advantaged interest income. Furthermore, the principal is guaranteed. This means (unlike traditional, non-government bonds) that the redemption value will never decrease. This is one of the advantages of savings bonds as a whole. As a result, I Bonds are considered low-risk investments.

3. I Bonds Offer Some Tax Breaks

Tax-efficient investors may want to consider certain I Bond features. Because I Bonds are exempt from municipal or state taxes, this can be a boon for some investors. That said, while federal taxes usually apply, they could be deferred until the bond is ultimately sold, or matures; whichever happens first.

Additionally, I Bond investors may use the interest payments for qualified higher education expenses, and receive a 100% deduction (this is called the education exclusion). Some restrictions apply, including:

•   You must cash out your I Bonds the year that you want to claim the education exclusion.

•   You must use the interest paid to cover qualified higher education expenses for you, your spouse, or your dependent children the same year.

•   You cannot be married, filing separately.

4. I Bonds Are Similar to E Bonds & EE Bonds

Investors who are familiar with the Series E Bond may also find I Bonds appealing. While Series E Bonds are no longer available from the Treasury, they can still be purchased from other investors who currently hold them. Historically, Series E bonds were also known as defense or war bonds.

Series E bonds were replaced by Series EE bonds (aka “Patriot Bonds”) in 1980. Today, like Series I Bonds, investors can buy EE Savings Bonds from TreasuryDirect .

An interesting feature of Series EE Savings Bonds is that, over a 20-year period, these bonds are guaranteed to double in value. And should the interest not be enough to double the value, the U.S. Treasury will top it up, giving the bond an effective interest rate of 3.5%.

While I Bonds don’t offer the same guarantee, because they are basically variable rate bonds, your principal is guaranteed and is likely to see a competitive rate of return since these bonds are designed to keep pace with inflation.

Ready for a Better Banking Experience?

Open a SoFi Checking and Savings Account and start earning up to 3.75% APY on your cash!


5. I Bonds Are Easy to Purchase

Investors can purchase I Bonds online through TreasuryDirect in denominations over $25. The maximum amount of I Bonds someone can purchase is $10,000 per calendar year.

In paper format, investors may use their tax refund to purchase up to $5,000 a year.

6. I Bonds Are a Long-Term Investment

In general, the primary risks in buying bonds revolve around redemption. What if you need your money before maturity?

I Bonds are generally a long-term investment. To start with, investors must understand that they have their money locked up for one year. After that, investors who redeem their I Bonds before they’ve held the bond for five years will forfeit the last three months of interest. (You can redeem an I Bond after five years with no penalty.)

As a result, those looking for a shorter-term investment may want to consider investing in treasury bills.

7. Other Investments Might Offer Better Returns

One advantage of investing in stocks, mutual funds, and ETFs is that investors can potentially make a lot more money if the stock or fund does well. Similarly, you could lose money if the investment performs poorly. Since I Bonds are principal protected, you can never lose the initial investment, but it’s possible your money won’t grow as much as it could if you invested in other options, like equities.

Honorable mention: TIPS, or Treasury Inflation-Protected Securities, are also a type of government bond designed to protect investors from inflation. The principal amount of a TIPS bond will increase with inflation, while the interest payments remain fixed. I Bonds are similar to TIPS but offer additional protection against deflation.

8. It’s Hard to Predict an I Bond’s Return Over Time

To maximize your return on investment when purchasing I Bonds, it is essential to understand the differences between the two interest rate components of the bond, and how they can play out over time.

I Bonds offer a fixed interest rate, which remains the same for the life of the bond, and the inflation-protection component, which adjusts with changes in inflation rates twice per year.

As of November 2022, the fixed rate is 0.40%. It will remain that rate for I Bonds bought from November 2022 through April 2023. The current inflation rate, which adjusts twice a year, is 6.48%. The composite rate of return or earnings rate is 6.89% for six months after the issue date.

That means if you bought a $10,000 I Bond this month, you would get roughly $345 in interest for the first six months. After that, your rate would adjust. If inflation goes up, so would the rate of return. If inflation goes down, the bond’s inflation rate would likewise decrease.

While you might hazard a guess that your $10,000 could see a 6.89% return after one year, or $689 on your $10,000 investment, there are no guarantees.

And if you hold onto your I Bond for 10, 20, or 30 years, you would see some years with higher inflation rates and some years with lower inflation rates.

9. You Must Meet Certain Criteria to Buy an I Bond

To be eligible to buy I Bonds you must be:

•   A United States citizen, no matter where you live,

•   A United States resident, or

•   A civilian employee of the United States, no matter where you live.

Also, investors can only purchase I Bonds with U.S. funds. You cannot buy them with foreign currency.

The Takeaway

If you’re looking for a safe and reliable investment option, I Bonds are worth considering. They offer tax breaks and other benefits that can make them a near risk-free choice for your long-term savings goals. That said, because I Bonds come with a composite rate of return, it’s hard to predict how much your money will actually earn over time.

Fortunately, with I Bonds (as with most government bonds), your principal is guaranteed. If you buy a $1,000 I Bond, no matter what happens, you will get your $1,000 back.

If you’re interested in getting that steady rate of return, there are alternatives to government bonds, including the new Checking and Savings all-in-one bank account with SoFi. With SoFi, you can earn a competitive annual percentage yield, and you don’t pay account fees.

Better banking is here with up to 3.75% APY on SoFi Checking and Savings.


Photo credit: iStock/Bilgehan Tuzcu

SoFi® Checking and Savings is offered through SoFi Bank, N.A. ©2022 SoFi Bank, N.A. All rights reserved. Member FDIC. Equal Housing Lender.
SoFi members with direct deposit can earn up to 3.75% annual percentage yield (APY) interest on Savings account balances (including Vaults) and up to 2.50% APY on Checking account balances. There is no minimum direct deposit amount required to qualify for these rates. Members without direct deposit will earn 1.20% APY on all account balances in Checking and Savings (including Vaults). Interest rates are variable and subject to change at any time. These rates are current as of 12/16/2022. Additional information can be found at http://www.sofi.com/legal/banking-rate-sheet
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.
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Crypto Tax Loss Harvesting Guide for 2022

Crypto Tax-Loss Harvesting Guide: Turn Losses Into a Tax Benefit

Tax-loss harvesting is a popular tactic used by many investors who hold traditional assets such as stocks or bonds, and it can also be applied to cryptocurrency investments. Crypto tax-loss harvesting follows the same principles as ordinary tax-loss harvesting, except it can be used by crypto investors to reduce their tax liabilities.

Crypto tax-loss harvesting is particularly relevant for 2022, when many investors have seen steep crypto losses. The upside is that tax-loss harvesting allows crypto investors to offset their losses against other capital gains in their portfolio.

Ultimately, tax-loss harvesting may help crypto investors lower the amount they owe in taxes — an important benefit, given how volatile crypto can be. And for various reasons, the current rules have been more favorable for crypto traders, although that could change.

What Is Crypto Tax-Loss Harvesting?

Tax-loss harvesting, and by extension, crypto tax-loss harvesting, is primarily a way to lower or even eliminate capital gains taxes on your investment gains for a given tax year. Although tax-loss harvesting has traditionally been a tactic used with traditional assets, like stocks, bonds, or ETFs, tax-loss harvesting crypto investments is simply using crypto investments to harvest tax losses.

With tax-loss harvesting, an ordinary investor can sell assets that have dropped in value and use the losses to mitigate the capital gains tax they may owe on the profits of other investments they’ve sold.

For example, if an investor sells a security for a $25,000 gain, and sells another security at a $10,000 loss, the loss could be applied so that the investor would only see a capital gain of $15,000 ($25,000 – $10,000). That’s the main benefit of tax-loss harvesting.

The same basic rules apply to crypto investors, with the exception of the wash sale rule. This is covered in more detail below, but essentially the wash sale rule prohibits securities investors from selling investments to lock in a loss — and then repurchasing the same investments within 30 days. If an investor violates the wash sale rule, they can’t use their losses to offset taxable gains.

This isn’t true for crypto investors at the moment. Currently, crypto investors aren’t covered by the wash sale rule, so they can sell crypto holdings at a loss, use the realized loss to offset capital gains, and then repurchase the same crypto they just sold.

While there’s more to the strategy than just a 1:1 application of losses to gains, as you’ll see in the sections below, a tax-loss harvesting strategy can be an important part of a tax-efficient investment strategy.

Note that an investor has to actually sell the asset to create a taxable event, otherwise, it’s still an “unrealized” loss. Tax loss harvesting only comes into play when you sell your holdings at a loss.

How Crypto Tax-Loss Harvesting Works

When engaging in tax-loss harvesting to try and lower your tax liability, remember that there are a lot of variables at play. Those can include the specific asset being sold, how long the asset was held, and even your household income and tax filing status.

Example of Crypto Tax-Loss Harvesting

But to keep things simple, here’s an example of crypto tax-loss harvesting:

Let’s say the value of your Bitcoin holdings is down by $5,000. If you sell your Bitcoin and take the loss, you can then apply that $5,000 to offset other investment gains realized in the same calendar year. You’re not limited to applying crypto losses to crypto gains. So if you have investment gains of $10,000 in total in a given year, the $5,000 loss would reduce your taxable gain amount to $5,000 for that year.

That said, there are two types of capital gains: Short-term (less than one year) gains, and long-term gains (for assets you’ve held for a year or more). Depending on how long you’ve held different investments, you could owe more or less when it comes to capital gains . That’s because long-term gains are taxed at a more favorable rate; short-term gains are taxed at the higher capital gains rate.

Be sure to consider which assets you’re selling and when, because the IRS applies like to like: short-term losses to short-term gains and long-term losses to long-term gains first. After that, your investment losses generally offset any gains, and can be carried forward (see below).

Note, too, that some investors can use automated tax-loss harvesting tools to do the heavy lifting for them when it comes to tax-loss harvesting.

How Much Can You Tax-Loss Harvest?

The limit you can tax-loss harvest is determined by the amount of your losses versus your gains. You can only harvest the investment losses you have for a given calendar year and apply them to the investment gains you realized in the same calendar year.

If capital losses equal your capital gains, they would offset one another on your tax return, so there’d be nothing to carry over. For example, a $10,000 capital loss would cancel out a $10,000 capital gain.

If your losses exceed your gains, there is a remedy.

What If You Have More Losses Than Gains?

In order to allow taxpayers to claim the full capital loss deduction they’re entitled to, the IRS allows investors to carry tax losses forward into future years using a strategy called a tax-loss carryforward.

This means, generally speaking, that you can report losses realized on assets in one tax year on a future year’s tax return. IRS loss carryforward rules apply to both personal and business assets.

Thus, if your capital losses exceed your capital gains, you can claim the lesser of $3,000 ($1,500 if married filing separately) or your total net loss shown on line 21 of Schedule D for Form 1040. Any capital losses in excess of $3,000 could be carried forward to future tax years. The IRS allows you to carry losses forward indefinitely.

Up to $100 in bitcoin2 – just for you.

With 30 coins available, our app offers a secure way to trade crypto 24/7.


When Is Tax-Loss Harvesting Crypto Worth It?

Tax-loss harvesting is somewhat of an advanced investment strategy, so whether or not it’s worth it depends on your specific financial picture. If you only have a handful of crypto investments, for instance, and don’t plan on selling any of them, tax loss-harvesting crypto may not really be necessary.

The strategy itself is most useful when the benefits are greater than the costs to you (crypto tradings costs, fees, etc.). But if you’re a fairly active crypto investor, cryptocurrency tax-loss harvesting may indeed be worth it. The best course of action, however, is probably to consult an accountant or financial professional for guidance.

When Is the Best Time to Tax-Loss Harvest?

Generally, many investors engage in tax-loss harvesting at the end of the year in order to lock in their gains and losses for the tax year. That’s mostly because people are looking for ways to lower their potential tax bills, and some year-end portfolio moves can often help them do it. But it’s a strategy that can be used year-round — not merely to end the year.

Pros and Cons of Tax-Loss Harvesting

Naturally, if you want to tax-loss harvest crypto, there are some pros and cons to be aware of.

Pros

Cons

Can lower or eliminate capital gains, thereby reducing your tax bill Costs of tax-loss harvesting may outweigh benefits
Excess losses can offset personal income tax, and carried forward to future tax years May benefit high income investors more
No wash sale rule Could throw off your asset allocation

Is Tax-Loss Harvesting Crypto Legal?

Yes, crypto tax-loss harvesting is legal for now. Under the Build Back Better Act, some provisions might have changed how crypto investors carried out their tax-loss strategies, but that law has yet to pass Congress.

What About Wash-Sale Rules?

Usually, when discussing tax-loss harvesting, investors need to be aware of wash-sale rules. This IRS rule states that if you sell an investment to claim a loss, and then buy the same asset back within 30 days (pre- or post-sale) — what’s known as a wash sale — you forfeit the ability to claim the capital loss as a tax benefit.

Basically, it’s the IRS’ way of stopping investors from taking advantage of the system. If you could sell Stock X to claim a loss only to turn around and rebuy Stock X 10 minutes later, then you’re not really realizing a loss, per se.

But crypto investors don’t need to worry about wash sale rules, at least for now. In something of a loophole, wash sale rules don’t apply to cryptocurrencies because the IRS taxes crypto as property, rather than as securities.

Until the IRS says otherwise, crypto is unaffected by wash-sale rules. But as noted above, there is legislation currently being considered that could close this loophole for crypto investors by apply wash-sale provisions to crypto trades as well.

Trading Crypto With SoFi

Tax-loss harvesting cryptocurrency can provide crypto investors with a method for reducing their taxable income. Since crypto trading is unaffected by the wash-sale rule, it may be a relatively easy way for sophisticated investors to lower their tax bills. But it’s not foolproof, as the costs of crypto loss-harvesting may outweigh the potential savings.

While you may not be interested in high-level tax strategies right off the bat, you can start buying and selling cryptocurrency using SoFi Invest. When you open an Active Invest Account, and from there set up your crypto trading account. Even better, you can get started with as little as $10, and you can trade dozens of coins 24/7 from the convenience of your phone or mobile device.

Trade crypto and get up to $100 in bitcoin! (Offer is available through 12/31/23; terms apply.)

FAQ

Is there a limit to how much you can tax loss harvest?

Not really. As long as you have investment gains that match your losses, you can use those losses to offset any taxable gains. There is a limit if you want to carry losses forward to future tax years. The limit is $3,000 ($1,500 if you’re married, filing separately).

Can you avoid capital gains tax on crypto?

The easiest and most obvious way to avoid capital gains tax on crypto is to hold it, rather than sell it, which triggers a taxable event. Other than that, you can gift your crypto holdings to avoid taxes on gains.


Photo credit: iStock/xavierarnau

SoFi Invest®
The information provided is not meant to provide investment or financial advice. Also, past performance is no guarantee of future results.
Investment decisions should be based on an individual’s specific financial needs, goals, and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
1) Automated Investing—The Automated Investing platform is owned by SoFi Wealth LLC, an SEC registered investment advisor (“Sofi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC, an affiliated SEC registered broker dealer and member FINRA/SIPC, (“Sofi Securities).
2) Active Investing—The Active Investing platform is owned by SoFi Securities LLC. Clearing and custody of all securities are provided by APEX Clearing Corporation.
3) Cryptocurrency is offered by SoFi Digital Assets, LLC, a FinCEN registered Money Service Business.
For additional disclosures related to the SoFi Invest platforms described above, including state licensure of Sofi Digital Assets, LLC, please visit www.sofi.com/legal. Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform. Information related to lending products contained herein should not be construed as an offer or prequalification for any loan product offered by SoFi Bank, N.A.
Crypto: Bitcoin and other cryptocurrencies aren’t endorsed or guaranteed by any government, are volatile, and involve a high degree of risk. Consumer protection and securities laws don’t regulate cryptocurrencies to the same degree as traditional brokerage and investment products. Research and knowledge are essential prerequisites before engaging with any cryptocurrency. US regulators, including FINRA , the SEC , and the CFPB , have issued public advisories concerning digital asset risk. Cryptocurrency purchases should not be made with funds drawn from financial products including student loans, personal loans, mortgage refinancing, savings, retirement funds or traditional investments. Limitations apply to trading certain crypto assets and may not be available to residents of all states.
2Terms and conditions apply. Earn a bonus (as described below) when you open a new SoFi Digital Assets LLC account and buy at least $50 worth of any cryptocurrency within 7 days. The offer only applies to new crypto accounts, is limited to one per person, and expires on December 31, 2023. Once conditions are met and the account is opened, you will receive your bonus within 7 days. SoFi reserves the right to change or terminate the offer at any time without notice.

First Trade Amount Bonus Payout
Low High
$50 $99.99 $10
$100 $499.99 $15
$500 $4,999.99 $50
$5,000+ $100

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