What is cryptocurrency staking? Explanation of the mechanism and yield
Staking is one of the asset management methods using virtual currency (crypto assets). You can get a profit just by holding the target virtual currency.
However, even if you know the name and the benefits you can get, there are probably many people who do not know the mechanism of how you can get the benefits.
Even if you are interested in staking, if you do not know the mechanism, you will not be able to accurately grasp the advantages and disadvantages.
Therefore, we will explain the mechanism, merits and demerits of virtual currency staking in an easy-to-understand manner.
Find out in this article
- What kind of service is staking and how does it work?
- Advantages and disadvantages of staking
Table of contents
- What is cryptocurrency staking?
- How cryptocurrency staking works
- Advantages of cryptocurrency staking
- No application or contract required
- There is no upper limit on the amount subject to staking and no restrictions on the holding period
- subject to separate management
- Disadvantages of cryptocurrency staking
- Limited virtual currencies
- You may not be able to move virtual currency for a certain period of time
- Rewards may not occur
- Crypto Staking FAQ
- What will be the taxation on the profits obtained from staking?
- What is the yield of staking?
- Is it possible to combine lending and staking in one cryptocurrency?
- Summary of cryptocurrency staking
What is cryptocurrency staking?
Staking is one of the asset management methods using virtual currency.
The detailed mechanism will be described later, but you can earn rewards in return by simply holding the target virtual currency or locking it and contributing to the maintenance of the blockchain ecosystem (economic zone).
Staking can be done by individuals, but it is more common to use staking services provided by virtual currency exchanges.
How cryptocurrency staking works
Staking is closely related to the “consensus algorithm”, a consensus-building mechanism that is necessary for approval when recording transaction data on the blockchain (when generating blocks).
Consensus algorithms related to staking include PoS (Proof of Stake) or its derivative DPoS (Delegate Proof of Stake).
In PoS, a representative "validator" who can generate and approve blocks is selected from those who hold a large amount of the target virtual currency or who have a longer holding period, and rewards are paid to that validator.
Of course, there is also an option to become a validator yourself, but in order to allow more network participants to enjoy the rewards of validators, a staking pool is managed by companies, etc., by depositing virtual currencies from multiple participants.
On the other hand, DPoS decides a representative "delegate" who can generate and approve blocks by voting by the holders of the target virtual currency, and the reward paid to the delegate is also returned to the voter who choose the delegate.
Staking refers to a mechanism that allows you to hold virtual currency that uses PoS or its derivatives for such a consensus algorithm and receive rewards.
However, especially among overseas virtual currency exchanges, regardless of the mechanism by consensus algorithm, there are places where staking is used to describe the mechanism and services in general that allow you to stake virtual currency and receive rewards. Be careful not to confuse them.
Advantages of cryptocurrency staking
Next, let's look at the advantages and disadvantages of virtual currency staking.
Here, as with staking, we will explain while comparing it with “lending (rental virtual currency)” where rewards are generated for the virtual currency you hold.
What is lending?
Lending (loaning virtual currency) is a service that allows you to lend your own virtual currency to a virtual currency exchange, etc., and receive a rental fee according to the amount and loan period.
First of all, there are three main advantages of staking:
Key benefits of cryptocurrency staking
- No application or contract required
- There is no upper limit on the amount subject to staking and no restrictions on the holding period
- Subject to segregated management at virtual currency exchanges
No application or contract required
In the case of lending, an application must be made when using the service at the virtual currency exchange, and a consumption loan agreement must be concluded separately from the use of the trading account.
On the other hand, staking does not require a special contract with a virtual currency exchange, and you can enjoy the service just by owning something that does not require a lock.
No special procedures are required when receiving staking rewards, and they are distributed automatically.
There is no upper limit on the amount subject to staking and no restrictions on the holding period
In lending, borrowers such as virtual currency exchanges do not want to borrow indefinitely, so there is an upper limit to the number of loans offered, and sometimes they are not offered in the first place.
However, staking has no cap on the quantity covered by the service.
Yields fluctuate, but basically in staking, the more the target cryptocurrency is held and the longer it is held, the higher the return.
Subject to separate management
When using a Japanese virtual currency exchange, it is legally obliged to manage the virtual currency deposited in the account separately from the assets of the virtual currency exchange.
However, in the lending service, if the virtual currency is lent, it is not subject to separate management, and if the virtual currency exchange goes bankrupt, there is a risk that the lent virtual currency will not be returned.
Staking does not pose such a risk, as the state of separate management does not change even if the service is used.
Disadvantages of cryptocurrency staking
Next, let’s review the main disadvantages of staking.
The main disadvantages of cryptocurrency staking
- Limited virtual currencies
- You may not be able to move virtual currency for a certain period of time
- Rewards may not occur
Limited virtual currencies
As mentioned above, staking rewards are generated from virtual currencies that adopt PoS or DPoS derived from it as a consensus algorithm, and there are not many types of them.
Japanese virtual currency exchanges, which handle fewer types of virtual currencies than overseas, either do not handle virtual currencies that are subject to staking, or do not provide staking services even if there are virtual currencies that are subject to staking. Those who do not are currently in the majority.
You may not be able to move virtual currency for a certain period of time
Some staking services require the target virtual currency to be locked for a certain period of time.
In this case, for example, if the target currency crashes and you want to cut your losses, you will not be able to deal with it quickly.
In a staking service that requires locking, it will be necessary to incorporate the risk of not being able to respond to such price fluctuations on a case-by-case basis, and then formulate strategies such as the amount to be locked and the timing of using the service.
Rewards may not occur
As mentioned above, some consensus algorithms related to staking are representatives who can generate and approve blocks themselves, while others delegate that right to other network participants, such as by voting.
Many of the staking services provided by Japanese virtual currency exchanges are the latter, but if the delegated party is not elected as a representative who can generate and approve blocks, the period during which they were not elected No rewards are given during
Crypto Staking FAQ
Finally, here are three frequently asked questions about staking.
Staking FAQ
- What will be the taxation on the profits obtained from staking?
- What is the yield of staking?
- Is it possible to combine lending and staking in one cryptocurrency?
What will be the taxation on the profits obtained from staking?
Similar to the case where there is a trading profit in virtual currency trading, the profit obtained in staking is taxed, but it is necessary to pay attention to the timing of taxation in staking.
If you receive virtual currency as a staking reward, it will be subject to taxation for the year at the market price at the time you received it.
Furthermore, if there is a trading margin when selling the virtual currency of the staking reward, it will also be taxed.
What is the yield of staking?
However, staking rewards fluctuate, so this figure is only an estimate.
As shown in the disadvantages of staking, there may be a period during the staking cycle in which you do not receive any rewards.
Is it possible to combine lending and staking in one cryptocurrency?
The virtual currency lent by the lending service is not subject to staking. However, specifications may differ between companies, so please check with the virtual currency exchange where you have an account to see if they can be used together before using these services.
Summary of cryptocurrency staking
We discussed the mechanism of virtual currency staking.
Summary of this article
- Staking is a mechanism that holds or locks the target virtual currency and obtains rewards.
- Based on consensus algorithms such as PoS, limited target currencies
- Unlike lending, staking has no upper limit on quantity or holding period
- The majority of Japanese virtual currency exchanges cannot use staking services
With staking, you can earn rewards simply by holding or locking the target virtual currency without having to have that much specialized knowledge.Those who are interested should try asset management through staking in parallel with virtual currency trading.
