As cryptocurrency is becoming more and more popular and widespread, more and more people are becoming interested in it. And try to use crypto both for the enrichment and for solving everyday situations. However, this is impossible without a reliable storage location - a crypto wallet. And here a little complexity arises - many users are firmly convinced that since the word “crypto” is in the name, this automatically means high security, complete anonymity and all that cryptocurrencies are famous for. And this is not entirely true.
Relatively speaking, all crypto-wallets can be divided into custodial and non-custodial. The difference between the two is that in the first case, the operator (custody) has access to your private keys, and in the second case it's only you who have them.
A custodial wallet is essentially an analogue of a bank deposit in the traditional financial sector. You transfer your finances to an authorized trustee, who guarantees their safety. And besides this, it can provide some additional advantages, but more on that later. Most often, the cryptocurrency exchanges, trading platforms and brokerage services act as “custodians”.
- Facilitated access. Pressing a few buttons on the correct and secure device - and you can manage your cryptocurrency assets.
- A forgotten private key or mnemonic phrase is not a loss of funds. You can start the access recovery procedure at any time. Yes, it will take some time, plus this is some indentation from classical anonymity, but it’s better than completely lose everything.
- It is possible to cancel some transactions and refund. Despite the fact that all operations within the blockchain are irreversible, there are some mechanisms to return funds. Without the help of an intermediary, however, there is little hope for this, but some services still provide their users with some compensation in case if they make a mistake.
- Low commission and high transaction speed. We didn’t clarify that most custodians are cryptocurrency exchanges and other services that interact with the currency for no reason. For those customers who have custody wallets, they offer faster service, for which you don't need to pay extra. And due to the lower number of transactions, the commission will also be lower.
- Possible loss of funds due to custodian problems. Yes, exchanges may be closed by the decision of the authorities, and their servers seized. And all funds held in custody wallets will be lost for their owners. This is exactly what happened in 2017 with the BTC-e cryptocurrency exchange blocked by order of the FBI. Yes, later it was able to restart on new servers, however, users of custodian wallets did not feel any better.
- Possible loss of funds due to hacking. In 2016, hackers managed to crack the Bitfinex crypto exchange and withdraw more than 120 thousand bitcoins from custody wallets. Neither multifactor authentication, nor multisig, nor other precautions helped.
- Inability to access funds during technical work.
What to do to increase reliability?
- Set PIN.
- Introduce two-factor authentication that works when the access point to the funds changes.
- Set daily transaction limits - this will help to save part of the funds if you regain control of the wallet in time.
- Set multisig confirmation. Minimum - 3 messages to 3 different addresses and transaction only if all three confirmations are available.
- Store on custody wallets only those funds that you plan to use. For the rest, use non-custodial cold wallets.
Non-custodial wallets are the natural alternative to custodian wallets - it is ones, access to which is completely controlled by the owner. Only he can access private keys, mnemonic phrases and other protection systems. They come in hardware, mobile, paper, desktop, and web applications. Usually, they are all cold - that means, they are not constantly connected to the network. This reduces the chance that you can even find out about them.
However, this does not give a one hundred percent guarantee of safety. So, for example, in 2018, the non-custodial wallet MyEtherWallet was hacked. Due to the hacking of the DNS service, customer requests began to be forwarded to a phishing site, through which attackers were able to gain access to private information and remove about 216 units of the Etherum.
In addition, hardware storage can be trivially lost, broken or forgotten somewhere. In the community of cryptocurrency enthusiasts, the story of a miner from the United Kingdom, who lost a hard drive in 2013, which held 7,500 bitcoins, is still popular.
But the main problem is that if you forget or lose your private key or mnemonic phrase, you will also completely and irreversibly lose access to your finances stored in the crypto wallet.
It’s hard to say which wallets are better - custodian or non-custodian. Each of them has its advantages and disadvantages. In short, non-custodian ones will be more useful to those who are accustomed to personally control their finances, are versed in technology and prefer personal safety. Custodial is better for the "novice user" and "ordinary consumer" because they provide the same functionality as the usual deposit accounts.