What are crypto wallets?
A wallet is known for keeping our cash and cards but with a crypto wallet, do you also keep crypto cash there or cards? Probably No. A crypto wallet can be an application, software, or device which is programmed to give the service of a wallet for keeping the private and public keys of our Cryptocurrencies. For better understanding, according to Wikipedia, A cryptocurrency wallet is a device, physical medium, program, or service which stores the public and/or private keys for cryptocurrency transactions.
So this is also called a wallet because you keep your passkeys in it, which you will always use for signing in and making transactions. Instead of holding these items or writing them down, the wallet keeps them for you and makes them accessible to you anytime you need them by rendering the interface and letting you access your crypto. With the modern crypto wallet, anybody can access the blockchain through his/her wallet because sending crypto out requires some manual tasks that the modern wallet has simplified everything into.
Satoshi Nakamoto was the one to build the first ever crypto wallet in February 2009, which was tested with Hal Finney. He received 10 bitcoins from Satoshi, which was the first digital transaction of bitcoin in history. And that makes Satoshi's wallet to be the first crypto wallet ever.
How crypto wallets works
As I've said above, a crypto wallet is used for keeping your passkeys: public and private keys — the password that gives you access to your Cryptocurrencies and lets you transact them — which is unlike your regular wallet where you keep your cash. It allows you to send and receive digital coins or assets like Bitcoin, Ethereum, etc. The wallet made it easy to use your crypto as it's easy to use your credit card for shopping.
Technically, the wallet doesn't store your Cryptocurrencies, but they all live on the blockchain. All your holdings are not in the wallet but on the blockchain, which can only be accessed using the unique private key of the crypto. The key proves your ownership of the digital asset, and without that key, you can't be able to transact your crypto. And if you lose the key, you won't be able to access your money, Blockchain is immutable. That's why it's imperative to keep it in your digital wallet, where you can access it anytime.
With your wallet, you can interact with the blockchain which gives you access to transact, purchase and monitor your crypto balance. Sending and receiving cryptocurrency has been made easy with your wallet using different integrated methods in your wallet. You can simply send by entering the recipient's or receiver's wallet address — this includes strings of letters and numbers from which cryptocurrencies or digital assets can be sent to and from— you then choose the quantity or amount of crypto you want to send, confirm the transaction using your passkey then send it.
With modern growth, many wallet applications have integrated a QR code scanner, a system that lets you scan a receiver's QR code, confirm the transaction with your key, and then send it easily. If you're the receiver, it's even easier than it is less or no involves anything other than sending your wallet address to your sender then you receive the payment.
Types of crypto wallets:
There are quite a lot of types of crypto wallets. These are the most common type presently, but you may also encounter others that are rare :
Software Wallets: This is the most used wallet now, these wallets include applications for both mobile and desktop devices. These software applications are programmed to be installed on our desktop, computer, laptop, or mobile, which can connect to the internet and can also access the blockchain network. Using a software-based application, you can transact, check your balance and operate your cryptocurrency normally.
And from the global statistics so far, most people prefer mobile for everything because of its handiness, and with that, mobile-based applications are the most used software wallets. And it has made it easy for users to transact and enjoy some special integrated features. Like scanning a QR code to make shopping payments, you can use crypto to pay in physical stores through their NFC (near-field communication). And application wallets are available for both android and IOS users.
Hardware Wallets: Hardware wallets are physical handy wallets, unlike software wallets. Using a hardware wallet, you store your passkeys in a storage hardware-specified based device. This wallet resembles a USB drive, Hard drive, or Modem drive but with the specialty of cryptocurrency Wallet feature.
When you want to make a transaction using a hardware wallet, you plug in the hardware wallet to the device, after sign-in you can make a transaction through it even without entering your passkey to verify; most of the time, it automatically detects it without requiring you to enter it repeatedly upon every transaction.
Getting a hardware wallet is costly, unlike a software wallet which is sometimes less or free, but getting a hardware wallet is better at $150 - $250. So this means you only have access to your hardware wallet when plugged in.
Paper Wallets: These are among the old types of regarded wallets for crypto. Since crypto wallets are used for keeping your passkeys, users then use paper wallets to keep their passkeys written or typed down on paper so that they won't forget. This paper wallet is risky because of loss, damage, and security, so many crypto users don't make use of it.
Although there's nothing wrong with using it because some people still use it til now as their wallet, they even print out their QR codes on paper for mobile users to scan easily. If users can take reasonable measures to secure it, they can use it; preferably, they love it.
Public keys and Private keys :
These keys are also known as passkeys. These keys are created or generated to secure your crypto and, generally, your assets on the blockchain.
The private keys are mainly generated to encrypt and decrypt. This key is shared between the sender and receiver with encrypted sensitive information when transacting. We might as well call this private key a "symmetric"; it's been called that before the key is shared between two parties.
When this key is generated for a user, it consists of lengthy, random, non-guessable bits and numbers. Brute force is the only an attacker can use when they have access to a private key, they will try out several keys until they find the appropriate one that fits yours. That's why you should always be security conscious of your keys.
The public key is extracted or created through private and public keys; the basis of this key is from both, which we can also call "asymmetric*. The mechanism behind the public key is built to match only one private key, yours. And with the help of private keys, they're used to decrypt and encrypt messages or information in a transaction. If a message is encoded with the public key or locked with it, it can only be accessed using the matching private key only.
The public key can be public and so can be known to others, but a private key is meant to be only for you, the owner. These keys are generated from the blockchain using a mathematical problem solving known as one-way functions so it can generate the keys in pairs. The cryptography mechanism lets the private key be faster than the public key because their unique usage is not like the jeopardized key, which is accessible to anyone.
These keys work In a way that the public is meant for any sender to encrypt a message in it through the intended public key of the receiver, which then can only be decoded using the matching or associated private key of the receiver. So when a sender sends a crypto fund to a receiver which is encrypted using the sender's public key aligned with the intended receiver's public key, which then can only be decrypted using the associated receiver's private key to make the fund accessible for the receiver. After the successful transaction, it will reflect on the blockchain record or ledger, which will change the sender's balance and decrease the receiver's balance in addition to the exact amount sent.
So know this now and be secured ultimately: Don't you ever share your private key with anyone, even a close relative, either on-demand or on a proven view of it. Because once your private key is exposed, you're vulnerable to being changed over the ownership of your digital assets because the private key is the one that gives you the ability of ownership and also grants you to transact your cryptos.
"Not your key, Not your coin," Explained
The idea of this world's most famous crypto mantras is that if your crypto is stored on the blockchain and is accessible through your private key only, then it makes the ownership as one-man ownership.
The sentence "not your key, not your coins" is constantly referring to needing the owner's private key to access funds or coins associated with the key. We can say the reasons for keeping your crypto funds and coins in your wallet, which is technically wrong, is straightforward enough. Cryptocurrency was created to decentralize ownership, not to centralize it, because using a third-party wallet to keep your coin means you're keeping in with the third party. NO! That's why it's technically wrong; rather, it's just a wallet used for keeping your keys with your special accessibility to it.
Because in some crypto exchanges which involve you in keeping your coin to an untrusted third party have seen quite several attacks that make your assets vulnerable to threats. The exchange system, which involves using a third party for crypto storage, is less in your control because of the centralization and even at a big security risk.
The holder or the owner of the private keys decides the flow of the coins associated with the key, and holding this key as the owner makes it your responsibility to guide it from exposure at all costs. And once your coins are not on the blockchain or in a centralized system due to the usage, be conscious of threats anytime.
What's a Non-custodial wallet?
This type of wallet is where only you, the holder, have total control of the keys. Without your possession of it, you don't control your crypto. Non-custodial is built upon intermediaries free to enhance the decentralization of blockchain; you can transact your crypto directly from your wallet without any third-party interference. Many crypto owners, holders, and traders love using it because of its decentralization, total maintenance, and ownership control of your keys and seed phrases.
You will be using a Non-custodial wallet when dealing with a decentralized transaction or exchange, like when you're using a decentralized application (Dapp) or a decentralized exchange. A non-custodial wallet enhances a more decentralization of control, meaning the owner is in your total control, not in centralized custody.
Advantages
Total ownership control: The main flag held by this wallet that makes it gain attention is decentralization which makes it easy for users to have full control over their funds. The users need not worry about using other third-party products to manage and control their funds.
Safety: we all seem to know that when it comes to a decentralized system, security is much more trusted, unlike a centralized system. To breach a decentralized system is hard, and since the adoption of a Non-custodial wallet, the breach has reduced and given more room for innovations around the system.
Fast or instant withdrawal: The custodial has some long routes to pass through before a withdrawal can be approved by the authority, but with a Non-custodial wallet, it does not need any confirmation from anybody or any third party before performing transactions or withdrawing funds. The system has made it easier to enjoy an instant withdrawal with less or no delay.
For everything with one or more advantages almost close to having disadvantages, but you might still be surprised that this wallet also has some disadvantages; let's check them :
Disadvantages
Full responsibility: Tho this might not sound like a disadvantage, it's in the real sense. You being accountable for your security is a big task for you, whereas it could be easier to be secured in a decentralized way with them. Even the slightest mistake, incident, or unguarded lead might lead to deletion, robbery, and so many unforeseen consequences.
Not user-friendly: A total beginner will be able to navigate through the interface. Because they are programmed, it is way too challenging to understand with less technical knowledge about it.
Trade delay: This wallet is not suitable for exchange or trading; they cause delays so that currencies can't be traded quickly. This seems to be the main reason why some interested users go for it.
Loss of keys/ recovery phrase, loss of funds and assets: When any user loses access to the wallet by forgetting the sign-in requirements or the recovery phrase will lead to a total loss of all the funds associated with the wallet. Even Blockchain analysis reports suggest that over 3 million BTC might be lost forever.
That's why it's advisable always to secure our recovery phase as we secure our private keys.
Pros
The control and ownership of your keys are within you.
It has been the fastest and easiest to create a new user wallet.
In case of a rare wallet hack or system hack, it won't impact user funds, coins, and assets.
There's no such myth as KYC or AML verification in creating a user wallet or storage permission
More advanced functions, features, and deliverables are available to its users
Cons
One crucial fact about this wallet is that when a user loses his/her recovery phrase, it's impossible to recover digital funds or assets anymore.
The technical knowledge involved in navigating them is quite advanced, and more know-how about it. It's not user-friendly to a beginner at all.
Some examples of popular Non-custodial wallets:
Electrum
Ledger NanoX
Trezor One
Exodus
Zengo etc.
What's a Custodial Wallet?
A custodial wallet is the opposite of a Non-custodial wallet, this involves third-party control. As the implies "Custodial Wallet," your wallet is in the custody of the body, and authority is all on them. So this means that the wallets are centralized and controlled by a central body; they manage, hold, and have access to your private keys and can be used on your behalf because you've granted the control.
In a few words, there won't be complete control over your fund and digital asset, but it's been managed, secured, and controlled by an untrusted third party. Using a Custodial Wallet is more or less risky but also has some unique benefits.
Advantages:
Losing keys has no significant effect: The third party manages your wallet and everything in it. So if you lost your recovery phrase or passkeys, it's more than easier to regain or retrieve it, unlike the Non-custodial wallet, which is a total loss.
Free and Fast transaction: This wallet does not require a transaction fee before a transaction can be successful. Unlike other wallets, this system enables every single customer to make free transactions within their ecosystem. It has helped many users save more because of the uncharged fee for transactions.
Possibility of backup is high: The third party managing your wallet most of the time offers a backup system in case of an unforeseen mistake. You can easily undo a transaction in process or restore a mistakenly previously done transaction. It has considered forgetting as human nature and provides backup as a solution.
Disadvantages:
Control over your funds: As it is known that the system is centralized, there is no total control over your assets. And this has been among their most significant disadvantages. They have full control over the flow of your funds and any required process to it. They can do and undo anything with your assets.
Less Secured: For the past years of existence, threat, breach, and attacks has been occurring in their zone and has exposed many vulnerabilities in them.
Need for KYC: this wallet has been set to strictly recommend users to always perform KYC (Know Your Customer, ID Verification) before any transaction grant. You cannot access your funds or any of the related services unless your identity is provided. And so, the necessity for identity verification has impeded the core and basic principle of Cryptocurrency.
Pros
With a custodial wallet, users worry Less and will be less responsibly held by users.
The way the wallet works has been so simple and easy to use for beginners
You can easily reset or retrieve your password to regain access to digital assets
Cons
Know that when using this wallet, your private keys are controlled by the third party
It's more vulnerable to hackers because of its centralization
It involves KYC and AML verification before the account can be created
It brings less advanced features even for the experienced crypto users
Some examples of popular Custodial wallets:
Bitgo
BitMex
Binance
Free Wallet
Blockchain.com etc.
Custodial Vs. Non-Custodial Wallet
With Custodial Wallet, the third party manages your private key. And whereas for Non-custodial wallets, it's in your total control and responsibility.
If you're Looking for a wallet that gives you full control over your funds and assets, go for the Non-custodial wallet, and so for you looking to build a decentralized wallet system.
Security: with the explanations so far, custodial wallets are governed by a central authority where all sensitive user data is stored in a system or storage, which is often accessible and vulnerable to the threat of data intruders. With this, the security level is low and it has no total governance for the body also because it can be easily hijacked anytime unless the authoritative parties implement strong security measures. Whereas, in the case of Non-Custodial crypto wallet comparison, the whole information remains with users. This reduces the risk of data being stolen unless the user shares the details with someone or their device gets stolen.
Transaction mode: In a Non-custodial wallet, any transaction made will reflect on the blockchain instantly; the wallet is connected directly to the blockchain network. But in the case of custodial, it takes quite a long to reflect due to the long route for the process but it will and must eventually reflect later on the blockchain. But at a faster pace, does the Non-custodial reflect real-time on the blockchain?
Recovery and Backup possibilities: This is only possible with a custodial wallet; the third party provides its user the possibility of backup Incase of any error forced or mistaken transactions. Users can quickly and easily restore and undo a transaction. And also, Incase of recovery phrase lost, or passkeys lost, users can recover their keys with only the use of a custodial wallet, unlike the Non-custodial own.
These are the main points that differentiate between a custodial wallet and a non-custodial wallet, and choosing a side that won the argument of a Custodial Wallet vs. VS Non-custodial wallet is up to individuals. The one that best fits your needs won the argument.
Which wallet is best for you?
From all we've said, if you're looking for a wallet that has a decentralized system in which you can have full control of your wallet, then a Non-custodial wallet is the best for you. But if you are looking for a beginner-friendly and centralized wallet with no full control of your funds, then a custodial wallet will be the best.
How to set up a non-custodial wallet:
STEP 1: Download a wallet app from your play store, Apple store, or any verified website for your desktop software wallet.
STEP 2: Create your account. But note: when dealing with a Custodial Wallet, there might be more demand for personal information due to their KYC policy. But in a non-custodial wallet, you don't need that, not even an email address. Also, keep your recovery phrase somewhere secure and your passkeys. The recovery phrases are randomly selected 12-word phrases. Ensure it's secured and kept well Incase of future need for recovery.
STEP 3: Start making instant transactions; you can send and start receiving cryptocurrency into your wallet. Note for a non-custodial wallet, it's always not possible to buy crypto with your local currency, be it US dollars, pounds, or Euros. You will find a way to exchange your currency for crypto and then transfer it to your wallet.
Conclusion
The primary distinction between a Custodial and Non-custodial wallet is that in custodial, the private key is held, controlled, and secured by a third party. In contrast, in non-custodial, users are fully responsible for and in control of their assets.
When it comes to securing your cryptocurrency holdings, deciding between a custodial wallet and a non-custodial wallet is crucial. Some people prefer custodial exchange accounts, others prefer non-custodial wallets, and some use a mix of the two. Whether you want to spread your cryptocurrency holdings across multiple crypto wallets, whatever you choose, make sure to always adhere to best security practices.