The Beginner’s Guide to Cryptocurrency Wallets
A crypto wallet is an essential tool for anyone who wants to buy, sell or trade cryptocurrencies. Crypto wallets work by holding pairs of private and public keys.
A cryptocurrency wallet is what allows people to store and trade crypto. It can be set up and managed by a centralized crypto exchange (CEX) like Coinbase, Crypto.com, and Gemini. Or, it can be set up and managed by a crypto investor on their own.
Think about a traditional wallet that you use to store your cash, credit cards and other personal materials on the go. You keep these valuables in one place (your wallet) to keep them safe and transport them when needed. It is the same for your cryptocurrency transaction records stored on the blockchain.Ready to get started? In this article you will learn what a cryptocurrency wallet is, how crypto wallets work, how to choose the best crypto wallet for you, and other important cryptocurrency security tips that can help keep your investments safe.
What Is a Crypto Wallet?
Cryptocurrency exists as nothing more than a string of code on a larger blockchain. When you purchase a crypto, such as Bitcoin or Ethereum, your proof of ownership is based on a public key and a private key.
The public key is like your bank account number: It tells you where your crypto is, but it doesn’t provide access to it. The private key identifies you as the “true owner.”
If you lose the private key, you could lose access to your crypto. Likewise, any person who gets ahold of your private keys has full access to your crypto.
There’s a popular expression in the crypto world, “Not your keys, not your coins.” If you don’t control your keys, you don’t have full access to your crypto assets.
How do crypto wallets work?
Crypto wallets safeguard your cryptocurrency, storing your crypto keys and keeping your coins accessible when you need them. Every crypto wallet is a pair of keys. The public key appears on the blockchain along with the amount it gained or lost in a given transaction. The private key allows the wallet’s owner to claim the amount associated with the public key.
You don’t actually have Bitcoin “inside” your wallet -– you have an identifying number associated with an amount that appears on the blockchain. All cryptocurrency exists as blockchain records. Crypto wallets share and track these crypto records securely, to prevent crypto accounts from being tampered with or faked.
Billions of dollars in Bitcoin worldwide are associated with individual keys, which are basically long strings of text. Each key is a universally shared text file of blockchain info.
Are crypto wallets safe?
If you have a lot of crypto and frequently trade it, you can manage risk by keeping the bulk of your funds in a more secure, offline wallet. And limit the funds that can be accessed through less secure platforms, such as exchanges.
Having several wallets can keep your crypto safer, because hackers love centralized points of attack. Some investors even split up their cold storage among a group of trusted friends and family, so no single individual can be targeted.
There are always risks to consider when it comes to crypto wallets. Software wallets have the potential to be hacked and hardware wallets could be lost or misplaced. With all non-custodial wallets, investors risk losing access to their crypto if they don’t know their recovery phrase. These are some of the risks associated with various types of wallets:
Custodial wallet risks. Setting up an account with a CEX can be risky because the company might get hacked or wind up being a big scam—it’s happened multiple times. Some CEXes, like Coinbase and Gemini, keep part of their assets in cold storage and have insurance in case they’re hacked.
Non-custodial software wallet risks. Investors don’t need to trust a third party when using a non-custodial software wallet, but they’re now responsible for keeping the wallet secure. They need to be careful to avoid accidentally downloading malware that targets crypto wallets onto their device or connecting their crypto wallet to a service that will steal its funds.
Non-custodial hardware wallet risks. Hardware wallets could be stolen, lost or damaged. There are sad stories of people who threw out or lost hardware wallets with cryptos that would now be worth millions.
Individual and institutional crypto investors may use a combination of different types of crypto wallets to help keep their investments safe. For example, many exchanges and avid investors keep the majority of their crypto in cold wallets and also have hot wallets for day-to-day trading and investing.
Custodial vs Non-Custodial Wallets: Which is Better?
Custodial and non-custodial wallets have different pros and cons that make them suitable for different types of users:
- If you are prone to losing passwords and devices, then it makes more sense to use a custodial wallet, since an exchange or custodian is likely to have better security practices and backup options. That’s why it’s a popular option for beginners who have little to no experience trading crypto. Further, transaction fees with a custodial wallet tend to be cheaper or even free.
- However, if you prefer to retain full control over your own funds, you might want to consider a non-custodial wallet.
Ultimately, it all comes down to your choice.
Types of Wallets
There are different types of wallets that can be used for different activities. Hot wallets are best used for frequent cryptocurrency transactions or for using wallet-enabled web apps. Cold wallets are better for long-term, secure storage.
Here’s a deeper dive on these two types of cryptocurrency wallets.
A hot wallet is a wallet that is stored on an internet-connected device, like a desktop, laptop or smartphone. Hot wallets are simple and convenient to use. But if your device gets infected with malware, your crypto can be stolen from a hot wallet. So you may want to consider only keeping spending money in your hot wallet, leaving the bulk of your investments in cold wallets.
Now, a hot wallet may be either a desktop or mobile wallet.
The first wallet ever invented was Bitcoin-Qt, and it was a desktop wallet. Today, desktop wallets are still the most used crypto wallets for beginners. To install a desktop wallet, all you need to do is to download it from the developer’s website and set it up. And, as you might have guessed, desktop wallets can also be used on laptops.
Some modern desktop wallets include:
- Brave wallet
If you ever need to do transactions while on the go, you’ll need a mobile wallet. These are especially useful if you visit brick-and-mortar stores that accept crypto, since you might not want to haul your PC with you every time you go shopping!
Mobile wallets carry the extra risk that your phone or tablet might get lost or stolen. So you may want to have a PIN code lock on your phone in case this happens. It’s also especially important for a mobile wallet to have a strong password.
You also may want to limit the amount of crypto you keep in your mobile wallet. When it runs out of funds, you can always transfer more crypto to it from your PC.
Mobile wallets can usually be downloaded from Google Play or the Apple App Store. But you may want to follow the link from the developer’s website instead of searching for it in the store, just to be sure that you’re getting an authentic copy of the software.
Some popular mobile wallets include:
- Metamask mobile
- Atomic wallet
A cold wallet is a wallet that is not connected to the Internet. You can’t do transactions on a cold wallet unless you connect it to a device that has Internet access. So cold wallets can be inconvenient for users that perform frequent transactions.
However, cold wallets are also more secure than hot wallets. They usually can’t be hacked without being physically stolen.
With this in mind, cold wallets are best used for long-term storage of large amounts of crypto.
A cold wallet may be either a hardware wallet or a paper backup.
A hardware wallet is a USB device that stores your private key (I’ll explain private keys in the next section). It has a PIN code lock to keep thieves from getting into it. To use a hardware wallet to do a transaction, you connect it to your PC.
The device sends a signature through the USB port, but it never sends the private key itself. Theoretically, this should prevent any malware on your PC from being able to steal your crypto.
The safest way to get a hardware wallet is to purchase it from the manufacturer’s website. They range in price from $50 to $180.
Some popular hardware wallets include:
- Trezor Model T
- Ledger Nano X
- Safepal S1
Paper backup wallets
When you first set up a desktop wallet, you’ll be offered a set of seed words that can be used to access your accounts if your device crashes (again, we’ll discuss this more in the next section). Under normal circumstances, these words are just used as a backup.
But you can also use these words as a form of long-term storage. Just take the following steps:
- Write your seed words on a piece of paper and store it somewhere safe and secure.
- Transfer crypto to your desktop wallet.
- Delete the wallet from your PC. (Make sure you’ve done step 1 first!)
Once you’ve done this, the crypto is essentially stored on the piece of paper. This means that an attacker shouldn’t be able to steal your crypto even if they install malware on your PC (as long as it wasn’t already infected). They would need to steal the piece of paper to get your crypto.
When you get ready to spend your crypto, you can reinstall the wallet software and import the seed words to recover your account. However, you’ll need to make sure the device you are importing the account to is malware-free.
At this point, you may be wondering exactly how a cryptocurrency wallet works. How can you verify that you are the owner of an account without using a username and password? I’ll go over that in the next section.
What are the risks of using crypto wallets?
One of the biggest risks of cryptocurrency is its volatility — just look at Bitcoin’s wild price swings since 2020. Governments and institutions worldwide are still figuring out how to regulate crypto, which means consumers are not yet protected against many crypto crimes and scams.
While companies offering crypto wallets may offer guarantees to customers and users, digital assets like cryptocurrency are not insured. There have also been several crypto crashes, and the value of Bitcoin has dropped considerably since its 2021 high.
Also, there have been several high-profile hacks of crypto exchanges, like the infamous Mt. Gox hack in 2014 that resulted in the loss of hundreds of millions of dollars in Bitcoin.
A software bug can also lead to disaster, like when the entire $300m value of the cryptocurrency Ether was accidentally collected by one individual, who then accidentally deleted all of it when he tried to return the money to the rightful owners.
Frequently Asked Questions About Setting Up a Crypto Wallet
Is setting up a crypto wallet hard?
The process might seem foreign to anyone new to crypto but it’s a relatively straightforward process.
The first time is the hardest but it gets easier once you understand the terminology and concepts.
Remember to start with a small amount of funds, just in case something goes wrong.
Once you’ve set up your wallet experiment with sending and receiving crypto. It’s also a good exercise to delete your wallet altogether and then restore it using a recovery seed just to understand how it works.
Do you need a crypto wallet?
This is a point of contention among crypto purists.
You can technically just leave your crypto on an exchange like Coinbase and never bother with a wallet. Of course if anything happens to Coinbase then you’re in trouble.
Crypto purists believe in self-custody and holding the private keys to your own crypto. Of course, that means you’re responsible and if you lose your private keys, than you’ve lost your crypto.
What is the best crypto wallet for beginners?
There are tons of good wallets for beginners. You might want to try a software wallet first so you don’t have to worry about ordering (and paying) for a physical wallet.
Some of the best beginner wallets include:
- Trust Wallet
- If you want to experience DeFi you might want to try:
- Phantom (SOL only)
Where should I store my recovery seed?
Somewhere safe. If anyone is able to acquire your recovery seed then they can liquidate your crypto funds.
People generally make a few copies of their recovery seed and store them in extremely safe locations. A safe, for instance, might be an optimal location.
There are also extreme individuals who memorize their entire 24-word recovery seed. This is called a brainwallet. It is not recommended.