Advocates of peer-to-peer bitcoin lending promise double-digit returns on your “passive” investments. As with everything else in crypto land, those claims are a mix of truth and lies and wishful thinking. On the other hand, legitimate peer-to-peer bitcoin lending companies are out there and will let you grow your bitcoin holdings.

Our introduction to making passive income with bitcoin lending will help you decide whether the risk is worth the rewards.

What is Peer-to-Peer Bitcoin Lending?

Peer-to-peer lies at the heart of cryptocurrency culture. The first bitcoin exchanges were simple meetups where people could trade bitcoin for cash with fellow enthusiasts. It didn’t take long for companies like BTCJam (2012), Bitbond (2013) and BitLendingClub (2014) to extend the bitcoin peer-to-peer model to small business financing.

Borrowing the P2P lending model

Peer-to-peer lending in the world of fiat financing got its start with the founding of Britain’s Zopa in 2005. Funding Circle, Prosper and Lending Club soon followed to serve the European and US markets. In the aftermath of the 2007 financial meltdown, traditional banks all but stopped lending to small businesses and P2P lending firms took up the slack.

While the P2P lending industry plays a legitimate role in small business financing, it has also been the source of financial scams — especially in China. According to Sixth Tone, thinly disguised Ponzi schemes and weakly managed financial firms have thrown China’s P2P industry into chaos. Regulators forced more than 200 of these companies to close and drove another 200 out of the country.

Advantages of bitcoin financing

Even in good economic times, there are people whose weak credit histories make getting loans difficult. In the aftermath of the 2007 financial meltdown, financing a small business became even more difficult. And that’s in the major economies of Europe, America and Asia. In developing countries, financing is even more difficult to get.

A crafter who’s just started an Etsy business and doesn’t have a selling history. An entrepreneur in a country like Argentina with double-digit inflation makes borrowing almost impossible. These kinds of people would struggle to borrow the capital they need to grow their business

That’s where bitcoin peer-to-peer lending services come in. Unlike banks, these companies consider more than a credit rating when evaluating an application. The higher risk of defaults involved with this approach gets offset by the higher interest rates borrowers pay.

Related: Masternodes 101: The Beginner’s Guide to Passive Crypto-Income

Regulatory struggles

Unfortunately for many first-generation companies, dealing with the regulatory challenges of peer-to-peer lending was too much of a burden to bear.

At the end of 2016, BitLendingClub announced that the tense relationship with Bulgaria’s regulators meant that “it is no longer feasible to maintain the operation of the platform.” After making nearly 10,000 loans worth $8 million, the company stopped making new loans and eventually shut down once the remaining loans were paid off.

BTCJam didn’t last much longer — its farewell post appeared in mid-2017. The company recapped its successes with more than 20,000 loans worth 64,000 bitcoin. But that wasn’t enough: “The regulatory challenges around Bitcoin and the difficulties we faced in introducing Bitcoin technology to poor communities around the world are simply beyond our capacity.”

Bitbond

Bitbond is one of the few first-generation bitcoin peer-to-peer lending companies to survive. The Berlin-based startup received nearly one million dollars from investors in its first two years, giving it a level of stability that the other companies lacked. Bitbond also developed good relationships with Germany’s financial regulators.

In 2016, the country’s regulator BaFin licensed Bitbond to issue loans to small businesses around the world. Quoted in Germany’s IT Finanzmagazin, Bitbond founder Radoslav Albrecht explained: “Bitbond is independent of any bank. This gives us great efficiency advantages. Other FinTechs usually rent a license and are geographically bound.”

Who’s behind Bitbond?

Radoslav Albrecht , co-founder and chief executive officer : After brief stints at Deutsche Bank and other German financial companies, Albrecht spent several years at a strategic consulting firm advising companies going through restructuring projects.

: After brief stints at Deutsche Bank and other German financial companies, Albrecht spent several years at a strategic consulting firm advising companies going through restructuring projects. Henning Franken , general counsel : Franken has held a number of corporate legal positions in Germany’s tech and finance industry.

: Franken has held a number of corporate legal positions in Germany’s tech and finance industry. Jarek Nowotka, chief technology officer: A serial entrepreneur, Nowotka founded a number of web development companies in his native Poland. He became Bitbond’s CTO in 2015, replacing company co-founder Robert Nasiadek

Investors

Bitbond received early support in seed and angel rounds from Berlin venture capital firm Point Nine Capital. The €800,000 raised in those two rounds was soon followed by a $1.2 million venture round funded by a number of individual investors. In early 2017, Berlin-based Obotritia Capital made an undisclosed investment in Bitbond and committed to funding $5.4 million in Bitbond loans.

At the beginning of 2018, Bitbond and Swiss financial institution 1741 Fund Management announced the creation of a licensed alternative investment fund based on Bitbond’s loan portfolio.

How Bitbond works

Bitbond positions itself as the world’s first global market for small business loans. This would be nearly impossible in the traditional fiat system due to the number of middlemen and the excessive costs of exchange rates. By basing its transactions on bitcoin, however, Bitbond is able to link borrowers and investors directly.

The company makes its money on the fees it charges both borrowers and lenders. Borrowers will pay loan origination fees of between 1% and 2% of the funded amount. Lenders pay service fees ranging from 1.1% to 2.2% of the amount they fund.

How to borrow from Bitbond

When borrowers apply for loans through Bitbond, they can base the loans on euros or US dollars. Through a partnership with Bitpesa, Kenyans can base their loans on Kenyan shillings. All of the payments, however, are made in bitcoin.

If a borrower takes out a €2,000 loan, for example, Bitbond will deposit €2,000 worth of bitcoin into the borrower’s digital wallet. The borrower then uses a local resource to convert the bitcoins into their local currency. Repayments of the loan work the same way.

To get approved for the loan, borrowers provide details about themselves and their small business. Bitbond has a machine learning algorithm that evaluates the applicant’s background and financial history and assigns a letter grade to indicate their creditworthiness. This score and the terms of the loan determine the interest rate the borrowers must pay.

How to lend with Bitbond

Rather than letting their bitcoin sit idly in a cold wallet, investors can put their digital assets to work by lending the coins to small businesses and earning interest. How much interest you earn will depend on how much effort you put into managing your loan portfolio and how much risk you’re willing to take.

Bitbond’s website claims lenders can earn 13% interest, but if you follow the company’s guidance for responsible lending, the actual earnings will be closer to 9%. Bitbond suggests you only invest 0.01 bitcoin per loan, spread those loans across multiple geographies, credit risks, and loan terms.

You can start funding loans on Bitbond with as little as 0.01 bitcoin and, according to Bitbond’s website, earn 13% interest. If you follow the company’s investment guidance, however, you will need at least 0.2 bitcoin to create a balanced portfolio that will probably earn about 10%. Of course, if your appetite for risk is stronger, you could earn more than that.

Other Crypto P2P Lending Services

Even though few first-generation bitcoin peer-to-peer lending services survived to see last year’s bull run in the bitcoin markets, other startups quickly jumped in. Here are a few to keep your eyes on.

Ripio

Ripio was originally founded as BitPago in 2013 to provide bitcoin-based payment services to retailers across Latin America. In 2017, the rebranded company launched an initial coin offering (ICO) to finance the Ripio Credit Network . The Ethereum-based system uses smart contracts to create a peer-to-peer lending ecosystem running off Ripio’s RCN token.

Early testing is underway in Argentina with plans to expand into Brazil and then emerging markets across Asia and Africa.

SALT Lending

At the same time that Ripio was launching its ICO, SALT Lending was rolling out its version of crypto financing. Using Ethereum-based smart contracts, people can turn their crypto holdings into collateral for personal and business loans. The company now operates in 35 US states, New Zealand and the United Kingdom.

SALT Lending went live in December 2017 with plans to have financed $10 million in loans before the month’s end. Turmoil struck in mid-2018 when the company’s founder and CEO, Shawn Owen, abruptly resigned. Accusations of ICO-exit scamming quickly appeared in crypto forums. Competing press releases from Swiss and Lithuanian crypto lending platforms publicized offers to buy SALT Lending.

The company’s CTO, Bill Sinclair, stepped in as interim CEO and has overseen SALT Lending’s expansion into 20 new states as well as growth in its loan portfolio to more than $50 million.

Fiat/Crypto hybrid loans

All of the companies we’ve talked about so far work by taking lenders’ crypto and turning it into loans for borrowers. Several startup companies — such as CoinLoan , ETHLend and Nebeus — are taking the opposite approach and using the borrowers’ crypto as a basis for financing loans.

For the most part, these companies work like fiat-based P2P loan services. Lenders use their own fiat to fund fiat-denominated loans taken by the borrowers. To get larger loans and better rates than traditional P2P lending provides, the borrowers put up their own crypto as collateral on the loan. Smart contracts lock up the coins and ensure lenders get their money back, should the borrowers default on the loan.

Final Thoughts

With some research and a little common sense, you can put your bitcoin holdings to work by joining a peer-to-peer lending pool. The question you have to ask yourself is whether the risks are worth it. On the one hand, keeping your holdings in a cold wallet ensures that you won’t lose your bitcoin. On the other hand, peer-to-peer lending lets you earn more bitcoin without having to play the exchanges.

If you do decide to become a crypto lender, just remember that peer-to-peer lending isn’t all that “passive”. You need to manage your loan portfolio to ensure the right balance of risk and bitcoin income.