Bitcoin, Litecoin, Ethereum, Dash, Ripple, Monero. No, they’re not movie superheroes from another galaxy. They’re cryptocurrencies. And these days, it seems like they’re all anyone is talking about.
Cryptocurrency is defined as a digital currency that uses encryption techniques to regulate the generation of units of currency and verify the transfer of funds, operating independently of a central bank. If you have gotten into the world of Bitcoin, or you’re considering investing in cryptocurrency in general, you may be wondering how using it for payments might affect your credit score.
The short answer is that in its current format, it really won’t make much of an impact. To explain, let’s take a look at how credit and cryptocurrency transactions differ.
Understanding cryptocurrency transactions
Whenever a transaction is not conducted in person via cash — which is most of the time — some extension of credit is required. Even when we’re making payments using services like Venmo and PayPal, credit is extended until those payments go through a clearinghouse. These services cannot offer instant clearing due to the technological limitations of international money. In this way, paying through Venmo or PayPal isn’t all that different than paying with a credit cards like Visa or MasterCard.
Cryptocurrency payments, specifically Bitcoin, are comparable to a wire transfer or cash transaction, where payments are sent directly between parties, without going through another financial institution. Instead, payments are processed through a private network of computers, and each transaction is recorded in a blockchain, which is public. Blockchain is essentially a digital ledger where transactions made in cryptocurrency are recorded chronologically and publicly.
Credit card transactions require the buyer to authorize a payment to be taken from their account by the seller. With cryptocurrency payments, however, no personal identification information is required and the transactions are made via an alphanumeric address that changes with every transaction, and a private key.
So what does this mean for your credit?
Cryptocurrency essentially adds anonymity to payments, by removing the financial institution and the buyer’s personal information from the process. Furthermore, its value is not tied to a nationalized currency and it has no value as a commodity or asset.
Unlike credit cards, cryptocurrency transactions are sent to and from electronic wallets that are stored on your computer, smartphone, or in the cloud.
Aside from the anonymity factor, even if cryptocurrency were tied to your personal information, it is still a very new form of currency and not widely used or accepted. However, there are compelling reasons for merchants to accept Bitcoin and other cryptocurrencies in terms of the potential savings on credit card fees, which that can range anywhere from 0.5 percent to 5 percent, plus up to 30 cents per transaction. Cryptocurrency payments, on the other hand, are based on the amount of data sent and can therefore be sent and received for a much lower cost, or no cost at all.
And many of the companies in this space are working for its expansion. In fact, one of the more well-known cryptocurrencies, Ripple, recently announced that it is working with more than 100 banks to overhaul how it handles payments for its clients.
Ripple is based on a digital token called XRP, which has seen more growth in value that its counterparts, including Bitcoin. XRP’s claim to fame is that it can help banks move cash faster than other cryptocurrencies. Still, banks have been slow to take the bait.
The big picture
Even if cryptocurrency could make an impact on your credit, most Americans would be hard pressed to find ways to use it in their day-to-day lives, considering that relatively few companies and retailers accept it as a form of payment.
Credit-based exchanges are irrelevant for cryptocurrency because it largely removes the role of the financial institution, thereby removing the need for trust or creditworthiness, as well as the need for clearinghouses.
For the time being, the use of cryptocurrency will be more akin to cash transactions for those using it, and therefore the only impact it will have on credit scores is that using cryptocurrency does not help to build positive credit like paying a credit card on time every month would. Nevertheless, cryptocurrency will continue to combine the advantages of cash transactions with the convenience of digital payment technology.
Where cryptocurrency could impact a consumer’s credit would be in terms of smart investing and making enough money to pay off other credit cards or high-interest debts. To date, approximately 7 percent of Americans own some form of cryptocurrency. Those who have been fortunate to get in and out at the right time have reaped some big financial gains. It remains to be seen if there may be future implications for the lending and repayment of cryptocurrencies.
If you’d like to learn more about what impacts your credit score, or how you can build or improve your credit standing in the traditional credit economy, Lexington Law can help. Contact us today for a free credit report summary and credit repair consultation.