Prepared for the incoming helicopter money of your central bank, you converted most of your fiat into Bitcoin?
You made a fortune by investing into Bitcoin but don’t want to sell so you don’t pay 30% of tax or more?
But now, you have a big purchase to do. Maybe a house, a car, a business investment, or a sudden tax bill to pay and you are short of fiat?
You think of selling your coins and paying your taxes, but don’t want to take the risk of sending all of it on an exchange and back to your bank account?
What if I told you, you can get the fiat, keep the coin, not answer any question about the purpose, and get some tax benefits on top of it?
** Disclaimer I am not a tax lawyer, so pay for proper professional for advice about this scheme in the jurisdiction you live in **
Making a loan with Bitcoin in collateral
A common way to avoid taxes but still having fiat when you need it is, instead of selling your asset to take a loan and put the asset in collateral.
By doing so:
- You keep the asset
- You pay very low interest rate, thanks to the central banks policy
- You can claim some tax benefits on the payment of your loan in some jurisdiction
- You can get the cash
- You don’t pay taxes as you did not sell anything
Doing so traditionally raise several issues:
- In some jurisdiction, you need proper credit and history. If you are an expat, this is hard to get.
- Most loan services ask you lot’s of question about your ability to repay and the purpose of the loan.
- Most loan services do not take Bitcoin as collateral, nor would you trust them to get custody of it.
- Those services are local to specific jurisdictions
- Interest rate are quite expensive, might go between 10 and 20%
The closest ideal is offered by Unchained Capital.
However, it does not work if you are not American and if you want a loan for other reason than developing a business.
Depending on your jurisdiction and purpose of the loan, this type of service might get you what you want
However, you need to consider another downside: Because the company granting the loan may have your holding in collateral, you have counterparty risks.
It is also dangerous for Bitcoin to have too much fund in the hands of custodian.
Lastly, services proposing loans between Bitcoin and any other tokens does not solve our problem. The sell of such token will raise a tax event, thus we can’t use it to pay for making big expenses. You would also need to pass by an exchange and take counter party risk.
Real Peer to Peer loans
What if I told you that it is technically possible to enter into a loan agreement where:
- The collateral is locked by the two peers, settled by an arbiter in case of dispute
- That the arbiter does not need to know about the deal before there is actually a dispute
- That the arbiter can’t steal the funds
- Nobody looking at the blockchain can know you are into a loan contract
It turns out that DLCs are specifically well suited for this use case.
If Alice (Borrower) and Bob (Lender) trusts into Olivia’s (Arbiter) integrity, then the only thing Olivia need to do is:
- Expose her oracle’s public key
- Gives Alice and Bob the DLC nonce for their contract
Then only if there is an actual dispute, Olivia can:
- Ask a payment to be the arbiter the dispute.
- Decide which side is right and attest the outcome
Olivia would not have to know anything about the contract details of Alice and Bob until there is a dispute.
Now Alice and Bob can enter in a DLC outcomes.
Alice put her Bitcoin in collateral, then Bob gives the cash.
Optionally, with DLC another interest thing you can do:
As Alice pays back Bob with interest, Bob could issue “Options” distributing the collateral to himself and Alice depending on how much Alice paid back.
This would allow Alice to get out of the contract with Bob, effectively selling her collateral to Bob against the rest of the unpaid loan.
** Note there is some attack vectors of the above scheme I left out for the purpose of simplicity, I may go into more details in a future post **
Why traditional 2-3 escrows are inferior
Now why do you need DLC for this? Actually one way of doing this would be to just have a 2-3 escrow.
The problem with this is that Olivia and any blockchain observer would know which that some parties engage into a deal settled by Olivia.
Also, if it was a 2-3 escrow, Olivia would need to sign the transaction to settle the dispute.
With DLC she is not signing anything, she just attests her judgement cryptographically.
This may be a big legal distinction that protect Olivia.
Olivia does not even need to run any server, so it drastically lower the barrier of entry of arbiters.
Olivia does not have to know what transaction on the blockchain she is settling.
She does not even have to know that it is on the Bitcoin blockchain or on another blockchain or if it involves any money transfer at all.
Alice and Bob can decide to divulgue as little information as possible to Oliva in case of dispute.
On top of this, it is possible for Alice and Bob to actually use several oracles to settle the dispute.
Where are we today?
Technically, NDLC can already be used for doing the above (outside the issuance of options).
Practically, it is the beginning of the adoption curve, so you will need to find a Alice, Bob and Olivia tech savvy enough to understand it. But that’s where all great things starts!
However it is clear that we have a tail wind. With ridiculous interest banks offered by banks and helicopter money, and maybe negative interest, you can bet people will be more than happy to lend money in peer to peer for relatively low interest rate.