What is a crypto wallet? Understanding the software that allows you to store and transfer crypto securely
- A crypto wallet is a device or program that allows you to transfer and store
- There are different types of crypto wallets, such as paper wallets, hardware wallets, and software wallets.
- A crypto wallet's security depends on how the private key is stored.
You can't fold up a bitcoin and put it in your wallet. Yet you can hold the keys to your crypto by using a crypto wallet of your own.
A crypto wallet is a software program or physical device that allows you to store your crypto and allow for the sending and receiving of crypto transactions. A crypto wallet consists of two key pairs: private keys and public keys. A public key is derived from the private key and serves as the address used to send crypto to the wallet.
Quick tip: Wallets have many public keys. This means that you can give out multiple different public addresses and use them to receive crypto to the same wallet.
The important part of a wallet - and the part where new users often find themselves getting into trouble - is the private key. A private key is like the key to a safe deposit box. Anyone who has access to the private key of a wallet can take control of the balance held there.
But unlike a safe deposit box, crypto users who hold their own private keys and make transactions using non-custodial wallets (i.e., a wallet not hosted by an exchange or other third-party) become their own bank.
"It is similar to a bank account but the main difference is it is controlled by a key that only you control. You use this [private] key to initiate transactions, which is called 'signing,'" says Joel Dietz, founder of Art Wallet and contributing developer to MetaMask.
While the idea of crypto itself is still new to many people, crypto wallets themselves are designed to be user-friendly. Web wallets like MetaMask and desktop wallets like Electrum come with a graphical user interface (GUI) that is made to be as simple as possible.
Understanding how crypto wallets work
Blockchain is a public ledger that stores data in what's known as "blocks." These are records of all transactions, the balances held at any given address, and who holds the key to those balances. Crypto isn't stored "in" a wallet, per se. The coins exist on a blockchain and the wallet software allows you to interact with the balances held on that blockchain. The wallet itself stores addresses and allows their owners to move coins elsewhere while also letting others see the balance held at any given address.
Quick tip: When sending a crypto transaction, always make sure you're sending to an address for a wallet of the same type of cryptocurrency. If you send Bitcoin (BTC) to a Bitcoin Cash (BCH) address, for example, those funds will be lost forever.
"Most Crypto wallets allow users to send, receive, and store crypto. Some have a feature to buy and spend cryptocurrencies," says Utsav Dar, co-founder of Incub8 Finance. "Certain crypto wallets have additional features like swapping between tokens, staking tokens for a fixed return paid out to users, as well as access to dApps (decentralized applications) built on various networks."
While each wallet has its own specific nuances, here are the general steps involved in sending or receiving funds using a crypto wallet:
- To receive funds, you need to retrieve an address (also known as a public key) from your wallet. Locate the "generate address" feature in your wallet, click it, then copy the alphanumeric address or QR code and share it with the person who wants to send you crypto.
- To send funds, you need the address of the receiving wallet. Locate the "send" feature in your wallet and enter an address of the wallet you intend to send coins to. Select the amount of crypto you'd like to send, and click "confirm." Consider sending a small test transaction before sending large amounts of crypto. Note that sending coins requires a fee that will be paid to miners in exchange for processing the transaction.
Sending money via QR codes or long strings of numbers and letters may seem strange at first. But after doing it a few times, the process becomes quite simple.
Types of crypto wallets
Crypto wallets fall under two general categories: software wallets and hardware wallets.
Software wallets are simply desktop programs or browser extensions that make it easy for people to send, receive, and store crypto. Hardware wallets serve a similar purpose but are physical devices that can be plugged into a computer.
Software wallets are sometimes called "hot" wallets because the funds are kept online. Hardware wallets keep private keys held offline or in "cold" storage.
A hardware wallet is a small device that can store crypto offline. "A hardware wallet keeps your keys off of your phone or computer," saya Dietz. "Usually, you plug in the hardware wallet from a USB port. This is much more secure because all of the signing happens off of your computer."
The typical hardware wallet costs around $100, give or take. These tend to be slightly more complicated to use than software wallets.
Most hardware wallets interact with a computer in one of three ways:
- A web-based interface
- A company-created app
- A separate software wallet
Software walletsRelated Article Module: The best Bitcoin wallets for storing and securing your cryptocurrency
A software wallet is a computer program or mobile app that holds private keys online. Software wallets are unique to each cryptocurrency while hardware wallets often support multiple currencies (more on these differences later).
"[Software wallets] can either be used on the web, in which case they are custody wallets, which aren't completely secure. Or they [can come] in the form of apps that can be installed on a phone/laptop, in which case the private keys are stored on the local device," says Dar. "These may be connected to the internet, again making them less secure."
Quick tip: When using software wallets, be sure to create backups on a regular basis. If a problem occurs with your web browser or hard drive, you could lose the private keys to your wallet, resulting in permanent loss of funds.
The three main types of software wallets are:
- Web-based wallets, like MetaMask, which work as a browser extension and can send ETH transactions, making it easy for users to interact with things like decentralized applications and decentralized finance (DeFi) protocols
- Desktop wallets, such as the Electrum wallet, that can be used on a desktop or laptop computer
- Mobile wallets, such as the Blockchain.com wallet, that allow users to store crypto, send/receive transactions, and "sweep" the private keys of an existing wallet into the app by scanning a QR code on their smartphones
Each type of crypto wallet has its own use case depending on the goals of the user, although they all accomplish the same things.
Quick tip: Paper wallets are another way to store your private keys. But the creation and use of paper wallets comes with a high risk of user error, and is too dangerous for storing any significant amount of crypto. It's generally advised to use other kinds of crypto wallets.
Pros and cons of crypto wallets
Some pros of using non-custodial crypto wallets include:
- Self-ownership of money. If you hold your own private keys, then that crypto belongs to you and only you. By comparison, money in a bank is technically property of the bank.
- The ability to send transactions to whomever you like, whenever you like. Decentralized cryptocurrencies are censorship-resistant because no one controls the network, making it hard for anyone to stop transactions.
Some cons of using crypto wallets include:
- User responsibility. Becoming your own bank means you have to assume 100% liability for anything that goes wrong.
- Learning curve. Using a crypto wallet requires a basic level of computer knowledge in addition to getting familiar with a new kind of financial ecosystem.
|Self-ownership of money Censorship-resistant transactions Quick and easy access||User responsibility Learning curve Chance of making mistakes|
The financial takeaway
The answer to the question "what is a crypto wallet" is that it's like a crypto bank account that only you control. Software wallets are built for convenience while hardware wallets are built for security. To get started, you should research what wallet types work best for you. Research the options available to you, including cost and security.
Those interested in going a step further can invest in a hardware wallet since doing so is one of the best ways to take ownership of your own private keys. Learning to use these might take a little longer for beginners, but doing so could be worth it for the added security. For those holding large sums of money in the form of cryptocurrency, most experts agree that using a hardware wallet is a must.Altcoins are the alternative digital currencies to bitcoin - here's what they are and how they work Digital assets are becoming the new normal - here's how to buy cryptocurrency Ready to invest in Bitcoin? Here are 4 steps to get started What to know about non-fungible tokens (NFTs) - unique digital assets built on blockchain technology
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