What is a bitcoin wallet? – USA TODAY Blueprint

Important points

• There are many types of bitcoin wallets.
• Bitcoin storage has been in the spotlight over the past year, with several firms declaring bankruptcy and customers losing access to bitcoin stored there.
• If done correctly, investors can store bitcoin safely without relying on another party.

What is a Bitcoin Wallet?

The fun thing about bitcoin is that it is digital. It doesn’t exist in the real world, which begs the question of how you store it, since it’s not as intuitive or easy as storing something like gold.

This is where bitcoin wallets come in. They store your private key, which is the long alphanumeric code that acts as the password to access your funds, and allow you to send and receive bitcoin.

There are many types of bitcoin wallets. Hot or cold, paper or hardware, storage or non-storage – they are a far cry from a leather wallet with a few dollar bills.

Types of Bitcoin Wallets

The two main types of Bitcoin wallets are hot and cold. Hot wallets are connected to the internet, while cold wallets are not, with varying degrees of convenience and security as a result.

Warm wallets

Because they are connected to the internet, hot wallets tend to be convenient. But this convenience comes at a price, as they are also easier to hack. A few examples of hot bitcoin wallets are Electrum, Exodus and Mycelium.

Hot wallets come in a variety of forms, including mobile, web and desktop, which we outline below.

Mobile wallets

Mobile wallets run as applications on phones and are easy to use.

The user experience is similar to that of many non-crypto payment apps, such as Revolut and Cash App. Deposits can be made via QR codes. Your crypto is available and can be executed within seconds.

Mobile wallets may be the most convenient, but they can be risky. Your smartphone can disappear and, depending on your device’s security, your crypto can go with it.

Being connected to the internet also brings threats of malware, fraud and other cyber risks.

Web wallets

Online wallets are similar to mobile wallets in terms of convenience and risk. Your private keys are stored on a server connected to the internet. That means – once again – there’s hacking risk, a trade-off for such convenience.

Desktop wallets

The last type of hot wallet is a desktop wallet.

Because it requires an internet connection, hacks are still a risk. But there is an extra layer of security compared to mobile and web wallets, as you usually don’t rely on a third party to store your coins. Instead, you download software onto your computer, with the hard drive normally storing the keys.

Cold wallets

Cold wallets differ from hot wallets because they are not connected to the internet. Ledger, Trezor and Ellipal are a few examples of cold bitcoin wallets.

“A cold wallet provides the highest level of security for self-storage. It is immune to common malware attacks, such as stealing private keys, keylogging passwords and manipulating the clipboard. Transaction verification and signing takes place on a separate device, further increasing security, says Max Sapelov, co-founder of CoinLoan, a crypto lending platform.

Improved security feels especially important after a fiery 2022, with events like FTX so fresh.

For those who need a recap of the FTX collapse: FTX was once a trusted crypto exchange. It went from being valued at $32 billion to filing for bankruptcy in a matter of days in 2022. Co-founder and former CEO Sam Bankman-Fried has been charged with criminal wrongdoing and has been accused of using customer deposits worth billions of dollars to support the operations and investments of both FTX and Alameda Research, FTX’s sister company.

The collapse of FTX has shaken the confidence of investors, many of whom are now seeking safer ways to manage their crypto assets. In many cases, these investors choose cold storage.

Cold wallets are considered one of the safest ways to store crypto assets. However, they are not the easiest approach. They require users to take an extra step after buying crypto on a centralized platform, such as Coinbase.

“The disadvantages of a cold wallet include the need to purchase a separate device, the need to perform a backup and the slightly more inconvenient process of managing assets than custodian services. This can be difficult for non-tech users,” Sapelov adds.

Types of cold wallets include hardware and paper.

Hardware wallets

Hardware wallets store crypto on an external device, usually a USB-like device, that is not connected to the internet.

Users have total control over their bitcoin and crypto assets, and hardware wallets are generally considered among the most secure storage options. If users configure their hardware wallets correctly, they are required to trust no one – except themselves. They must be careful to keep the wallet or the seed phrases, which are simplified versions of private keys, that unlock them.

Paper wallets

Paper wallets are another type of cold wallet. They offer the same security strengths as hardware wallets. Just like a disconnected USB device, it’s hard to hack a piece of paper.

A paper wallet consists of the private and public keys of the wallet printed on paper, sometimes in QR code form. Users can receive cryptocurrency transactions by sharing their addresses with others or by manually entering the keys or scanning the QR codes with a smartphone.

Before the rise of hardware wallets, paper wallets were considered among the best storage options. Today, hardware wallets are more ubiquitous, as they provide similar security benefits but are easier to use.

Temporary vs. non-custodial wallets

A custodial wallet is managed by a third party on behalf of the end user. A few examples of custodial wallets are those found on Binance, Freewallet, and BitMex. A non-custodial wallet is managed directly by the end user. Trezor Model One and Trust Wallet are a couple of examples.

“Custodial vs. noncustodial architecture has major security and usability implications,” says Joseph Bradley, head of business development at Heirloom, a software-as-a-service startup.

These implications were made painfully clear to many investors when FTX collapsed. When you use a custodial exchange, you rely on a third party to secure your private keys and assets and expose yourself to risks that the exchange could break or mismanage your crypto.

Customers who held bitcoin and other crypto assets in FTX’s standard custodial wallets had to trust that FTX would store their assets securely. Ultimately, this trust was misplaced and the movement of client funds ultimately led to the arrest of Bankman-Fried and his extradition to the United States

Which bitcoin wallet should I choose?

Which wallet you should use depends on what you want as an investor.

“Not your keys, not your coins,” the famous saying that has floated around bitcoin circles for years, is perhaps the most poignant advice. It warns of the dangers of custodial wallets, reminding investors that they are forced to rely on other parties to keep their assets safe.

After recent crypto events, it’s hard to argue against that mantra.

Then again, if you only have small amounts of bitcoin and expect to sell it shortly, it may not be worth sacrificing convenience for security, which makes a hot wallet more attractive. But there is a risk, and anyone who goes that route should be wary of the downsides.

A custodial wallet with live chat support is no more difficult to use than PayPal. If problems arise, a support team can help you solve them. If you lose your password or access to your email or phone, you can recover your account and assets through support.

While every investor will have their own preferences, the easiest question to answer is which type of wallet is the safest. This is where non-custodial wallets excel, with hardware wallets being the gold standard.

Although perhaps more intimidating to set up, hardware wallets offer peace of mind. There is no risk of hacks or losses if you are disciplined enough to keep your wallet safe. After what the crypto space has experienced in the past year, the security of a non-custodial cold wallet is advisable if you have a reasonable amount of crypto.

You can rest easy knowing your cryptographer is there. The only remaining question is how much that crypto will be worth.