What is Staking? Crypto Staking Simply Explained

What if your digital assets weren’t just sitting around in your wallet, but could generate income? This is exactly what is possible with cryptocurrency staking. Instead of just hoping for price gains, cryptocurrencies can be used to validate transactions in blockchain networks and earn rewards. In this article, we explain what is behind the concept of staking and how you can benefit from it.

What is Staking?

In blockchains based on the proof-of-stake (PoS) consensus mechanism, validators (network participants who stake their cryptocurrencies) play a central role as they contribute to network security and correct transaction processing. Basically, the cryptocurrencies deposited through staking are used to validate transactions on the blockchain. Attractive rewards are paid out to the validators in return, which can generate passive income.

How Does Staking Work?

Validators are incentivized to support the security and integrity of the network in the long term by distributing rewards. The staking process involves the following steps:

• Cryptocurrency: Not all cryptocurrencies can be used for staking. The prerequisite is that the underlying blockchain relies on the proof-of-stake consensus mechanism.
• Wallet selection: Staking or locking of cryptocurrencies is carried out via wallets or crypto exchanges. Technically savvy people can also set up their own validator node.
• Validation: The blockchain network uses the cryptocurrencies to validate and process transactions. The more cryptocurrencies are made available, the higher the chances of being selected as a validator.
• Rewards: In return for their contribution, validators usually receive rewards in the form of additional coins or tokens. The amount of the rewards varies depending on the network, but criteria such as the amount and duration of stakes often play a role.

How Can I Stake Cryptocurrencies?

Staking makes use of the hidden potential of digital assets and gives cryptocurrencies that are otherwise just lying around in a wallet an active role in the blockchain ecosystem. There are various ways to participate in the process.

1. Operation of a node

If you want to take full control and are prepared to invest more time and effort, you can set up your own node. By operating a node, you become a direct validator in the blockchain network. This method requires a good understanding of the blockchain protocol, sufficient hardware and a stable internet connection. It is a more technically complex and resource-intensive option, but offers the highest degree of control and potentially greater profits. Node operators must deposit a significant amount of cryptocurrency as a stake. The rewards for successfully validating transactions follow the rules of the blockchain protocol and are rewarded directly, with no other parties taking a slice of the pie.

2. Staking On an Exchange

One of the easiest ways to start staking is to use a crypto exchange. Staking services are now offered by many major exchanges. The advantage is that the process is simple and also suitable for beginners. All you have to do is deposit the cryptocurrency on the exchange and activate staking. The rest is taken care of by the exchange and the rewards are usually paid out automatically.

3. Staking in a Wallet

Those who want a little more control and do not want the complexity of their own node may find staking via a crypto wallet suitable. Staking services are already offered by some wallets, allowing assets to be allocated to staking directly from the wallet. The advantage of this method is that the stakes can be managed directly and control over the private keys is retained. Staking via a wallet represents a good middle ground, offering a balance between user-friendliness and control over the assets.

4. Participation in a Staking Pool

The advantage of participating in staking pools is that even small amounts of cryptocurrencies can be contributed. A staking pool consists of a group of stakers who pool their resources. The rewards generated by the pool are divided proportionally among all participants based on the cryptocurrencies contributed.

What is Proof-of-Stake (PoS)?

Proof-of-Stake (PoS) is a consensus mechanism in blockchain networks to validate transactions and create new blocks. To become a validator, a defined minimum amount of the native cryptocurrency must be deposited as collateral. The validators are selected at random based on the amount of collateral deposited – so the chances increase with the amount of cryptocurrencies in the collateral. By paying out rewards, validators have a financial incentive to participate in the network in the long term.

Differences Between Proof-of-Stake and Proof-of-Work

The fundamental difference between proof-of-stake and proof-of-work (PoW) lies in the way in which a consensus is reached on the blockchain. In PoW, miners use special mining hardware and compete to solve complex mathematical puzzles. The first person to successfully solve the task is allowed to add the next block to the blockchain and is rewarded with newly generated coins (mining rewards). This process is very energy-intensive and requires considerable computing power, which has led to environmental concerns. Bitcoin is the best-known cryptocurrency and is based on the proof-of-work consensus mechanism.

In contrast, PoS does not require special hardware or the solving of tasks. Instead, practically anyone can become a validator by holding the corresponding coin or token and staking it. The quantity and locking time of the coins plays a role here – the more coins per user are in the staking, the higher the probability of being selected as a validator and receiving rewards. This makes PoS far more energy-efficient and enables more participants to join the network. However, PoS carries a certain risk of centralization, as those with larger stakes have more influence over the network.

Advantages and Disadvantages of Staking

Return on Staking

Staking is often seen as a way to generate passive income. The potential return depends on various factors, such as the amount of coins used, the way in which staking is carried out and the underlying blockchain.

Is crypto staking worthwhile?

Staking can of course be worthwhile, but despite some attractive rewards, the business can also backfire under certain circumstances. Factors such as price fluctuations, APY and lock-up period play an important role and should always be taken into account. Possible tax implications must also be taken into account. Staking rewards are often considered taxable income, which has an impact on overall profitability.

How is the return on staking calculated?

Calculating the staking return can quickly become complicated. Why is this the case?

1. Staking rewards are usually paid out at relatively short intervals (daily or even every few hours).
2. The APY (annual percentage yield) and APR (annual percentage rate) are usually not fixed, but vary depending on network utilization.
3. Staking rewards are cryptocurrencies, which are subject to market volatility and constant price fluctuations.
4. Staking rewards usually have tax implications.

The calculation therefore involves variables that are constantly changing. In addition, you quickly lose track of the large number of transactions and have to take taxes into account.

Are Staking Rewards Taxable?

Staking rewards are considered taxable income in most countries, although the tax treatment may vary depending on the country. Rewards are usually taxable at the time of receipt. Further taxes may apply when the rewards are sold. Detailed records of all staking activities, including the amount of rewards received and their value at the time of receipt, are essential for accurate tax reporting.

Staking taxes in the US

In the US, staking rewards are treated as taxable income. When you receive rewards from staking, the fair market value of the cryptocurrency at the time you receive it must be reported as income on your tax return.

Staking taxes in the UK

In the UK, staking rewards are considered taxable as income. You need to report the fair market value of the rewards in GBP at the time you receive them.

Where Can I Stake my Cryptos?

There are various platforms and providers that offer staking services. The most common options include:

• Crypto exchanges: Many popular exchanges such as Bitpanda, Binance, Coinbase, Kraken or KuCoin offer staking services. They are usually simple and innovative to use, but a small fee is charged for the service.
• Staking platforms: Some platforms such as Lido, Staked.us, MyCointainer or Stakely have been developed specifically for staking. These platforms often offer attractive returns and a simple user interface.
• Wallets: Certain wallets such as Exodus, Ledger and Trust Wallet offer integrated staking functions. Cryptocurrencies can be staked directly from the wallet and you retain control over the private key.

Which Cryptocurrencies Are Suitable For Staking?

A variety of cryptocurrencies are suitable for staking, each with individual requirements and possible rewards. Some of the most popular options include:

• Ethereum 2.0 (ETH)
• Cardano (ADA)
• Polkadot (DOT)
• Solana (SOL)
• Polygon (MATIC)

Staking Examples

In the following, we provide examples of various staking options. However, this does not mean that only the option described is available for the cryptocurrency mentioned, but that it is merely one of several available.

• Ethereum node: At least 32 ETH are required to operate an Ethereum Validator Node. This method is capital-intensive and requires a lot of technical know-how, but also offers the full returns.
• Cardano delegated staking: ADA can be delegated to a staking pool and the operating platform takes over the technical requirements. Any amount can be staked and the rewards are distributed according to the amount staked.
• Solana wallet staking: SOL can be staked directly via a wallets such as Exodus, for example. The coins or tokens are delegated to a validator but simply and easily from the wallet. Furthermore, you retain full control over the coins used for staking.

Conclusion

Staking cryptocurrencies contributes to the security and functionality of blockchain networks, in return for which rewards are paid out. Factors such as market volatility, locking periods and tax implications must be taken into account. Tools such as CoinTracking automatically record all transactions and staking rewards, which is a huge relief in the context of tax liabilities.