Have you ever wondered where people store their crypto once they buy it? Your crypto assets will be stored in a digital wallet also known as crypto wallet. There are various crypto wallets available that crypto holders can use to keep their crypto assets, but they are split into two categories: Custodial and non-custodial wallets.
The main difference between a custodial and a non-custodial wallet is that in custodial wallets, the private key is held by a third party, and in non-custodial, users are responsible and in complete control of their assets. This post will look at the pros and cons of a custodial and a non-custodial wallet and help you choose one that suits your needs best.
Custodial Vs. Non-Custodial Wallets
Both custodial and non-custodial wallets have their advantages. Here is an overview of their fundamental differences.
| NON-CUSTODIAL | CUSTODIAL | |
|---|---|---|
| Private Keys | Controlled by you | Controlled by the third party (e.g., crypto exchange) |
| Security | Higher security, especially with hardware wallets | Lower security due to the persistent internet connection |
| KYC | No KYC required | KYC required in most cases |
| Withdrawal limits | No limits for withdrawals | Some providers set up withdrawal limits |
| Account recovery | Impossible to recover in case the recovery phrase is lost | Easy to restore an account with a password recovery link |
| Speed of transactions | Faster transactions as there is no need for approval from a third party | Secured transactions within the platform (e.g., from one account to another) and possible delays for external transactions due to KYC/AML checks |
Custodial Crypto Wallet
Custodial crypto wallets are when your crypto assets are held for you. This means that a third party will hold and manage your private keys. In essence, if you store your crypto assets in a custodial wallet, you will not have complete control over your funds or have the ability to sign transactions.
While custodial wallet service are often seen as unsafe, they are not always a bad thing. In the early day of Bitcoin, all users had to create and manage their crypto wallets and private keys. This has a lot of benefits sometimes but is risky, especially for new users because if you lose your private keys or they get compromised, you will permanently lose access to your crypto tokens.
Many prefer custodial crypto wallets over non-custodial crypto wallets since they do not require much responsibility and are more convenient. You can easily reset your password from your service provider if you forget it. Custodial wallet solutions, however, charge higher fees and will only provide you with exposure to a limited fraction of cryptocurrencies and trading pairs on crypto exchanges.
The Pros
- No Significant Effect on Lost Private Keys
SA third party manages your custodial wallets. If you lose your private keys or forget your password, you can easily access your wallet and your stored funds.Blockchain analysis reports that over 3 million BTC were lost forever through non-custodial wallets. In some cases, crypto inheritance didn’t work since the private keys were unretrievable once the original crypto owner was dead. But you can easily avoid such instances by sharing your private keys with a custodian if you use non-custodial crypto wallets.
- High Backup Possibility
Non custodial wallets offer backup facilities. This makes it much easier to undo a transaction or restore any previous version.
Custodial wallet solutions include investing in crypto ETPs and ETPs. These new solutions are gaining popularity with institutional investors looking for more investment exposure in crypto assets. They offer an opportunity to invest in crypto without managing your private keys and transacting on the blockchain.
- Free Transactions
Custodial wallets do not demand transaction fees, unlike other wallets. For example, Freewallet, a custodial wallet, helps its customers save on network fees.
The Cons
- Need to Provide KYC
Custodial online crypto wallets require you to perform a Know Your Customer ID Verification (KYC). You will not have access to your funds unless you prove your identity. The identity verification process impedes the basic cryptocurrency principle of anonymity.
- Custodian Will Have Control Over Your Money
One of the most significant drawbacks of having a custodial account is that you will not have autonomy over your money. This means the third party has complete control over your funds and all the associated process. They also have the freedom to take action on the funds, including freezing the funds stored in your account.
- Poses a Data Breach Threat
Once you purchase your first crypto, you might end up with a custodial exchange crypto wallet. Most cryptocurrency exchanges store their fund in cold or hot wallets. While these wallets are primarily safe from hackers, they are vulnerable to security breaches.
- They Have No Offline Facility
You must be connected to the internet while logging in to your custodial wallet or performing any transaction.
Non-Custodial Crypto Wallet
Non-custodial wallets are the opposite of custodial wallets. These wallets will give you complete control of your private keys and funds. Some investors have large amounts of crypto assets and might feel more comfortable with a non-custodial wallet eliminating the need for a third art.
Non-custodial wallets are sometimes browser-based, and others come in the form of software that you install on your mobile devices or desktop. Others can be in hardware devices, among other options.
It is essential not to allow access to physical access to your non-custodial crypto wallets. If someone could discover your password or PIN, they can quickly drain your account. In case you lose access to your wallet, there is a backup procedure.
How Non-custodial Wallets Work
While non-custodial wallets can take many forms, the best way to hold your cryptocurrency is by using a hardware wallet. These wallets look like USB storage devices with an analog button and a screen. The wallet must be connected to a computer or mobile device to work before sending it online to the blockchain to be confirmed.
However, if you were to lose your wallet, forget it, or destroy it and haven’t taken the precaution to regenerate your wallet, you could permanently lose access to your funds. You should keep your non-custodial account password protected but keep the password in written form in a secure location.
For the recovery process, you will need to use your ‘seed phrase,’ which will allow you to regenerate your crypto wallet on another device. This will give you access to crypto balances associated with your private keys.Please note that your seed phrase can regenerate your crypto wallet without physical access to your hardware wallet. Please ensure that you always keep it safe.
The Pros
- Total Control Over Your Funds
Most users prefer using non-custodial wallets since they provide users to direct to their funds. Users do not need access to a third party to manage their funds or perform transactions.
- Instant Withdrawals
You need confirmation from a third party to perform any transaction while using non-custodial wallets. It creates a seamless process making it easier to make instant withdrawals.
- Safety in Funding
There is a lower risk of the breach since the details associated with the crypto wallets rely on you. This is one main reason why 66.5% of crypto holders prefer using non-custodial and mobile storage solutions.
The Cons
- User Takes More Responsibility
With non-custodial accounts, you are more responsible for the security of your funds. A slight mistake on your side, like deletion, robbery, or an accident, can lead to losing all your funds.
- Trade Delay
Trades are often first sent to exchange, making it hard to trade the currency quickly.
- Complex User Interface
Non-custodial wallets have a complex user interface making them challenging to understand for new users.
- Lose Your Private Keys, and You Will Lose Your Money
If you lose your seed phrase or your private key, you lose your funds. Once you lose them, you will not have anyone to help restore your wallets.
Which Wallet Type Should You Choose?
Both custodial and non-custodial wallets have their advantages and disadvantages.
Custodial wallets have no transaction fee, are easy to use, and can quickly recover your funds if you forget or lose your password.
Non-custodial wallets, on the other hand, let you be in control of your crypto assets, and you can trade anonymously. It is, therefore, vital to consider all the pros and cons of each crypto wallet before deciding which wallet suits you best.
See also: Best Crypto Credit Card & Crypto Mining Guide
Related Questions
1. What Is the Difference Between Custodial and Non-custodial Wallets?
The main difference between custodial and non-custodial wallets is with the private keys. With custodial wallets, the private key is held by a third party, while in non-custodial wallets, users have full control and are responsible for their crypto assets.
2. Is Coinbase a Custodial or Non-Custodial Wallet?
Coinbase Wallet is a non-custodial product. This means a self-custody wallet gives you complete control of your digital assets. Users have full control and ownership of the cryptocurrency. Coinbase wallet is stored directly on your browser or your mobile device. It is not stored with a centralized exchange like Coinbase.com.
3. Why Are Custodial Wallets Considered Less Safe?
Custodial wallets are considered less safe than non-custodial wallets, but most users prefer using them since they require less responsibility. They are also more convenient; you can easily get your wallet back if you forget your password or lose your private key.
4. How Do You Create a Non-Custodial Wallet?
Creating a non-custodial crypto wallet is a complicated process that needs the assistance of a blockchain development company. If you want to make one, please seek their advice.
5. What Is a Private Key?
A private key is an alpha-numeric code often combined with a public key. It will help you access your crypto assets.
6. What Is the Meaning of Noncustodial?
Non-custodial means that you do not have custody. In the blockchain context, it means that a wallet allows users to own their private key and have complete control of their funds in storage.
7. Can Non-Custodial Wallet Get Hacked?
While connecting to the internet exposes your non-custodial software to a data breach risk, it is more secure for crypto users to need quick access to their assets.
It is, however, essential to ensure that you keep your private key and password safe since anyone can use them to access your account without having access to your hardware.
8. What Is the Safest Wallet to Use?
The safest wallet solution for your crypto assets is a physical hardware wallet. A cold storage is the best place to keep your crypto assets. It is a solid choice for any security-minded investor.
Closing
Choosing the right type of crypto wallet for your assets is essential. Your personal preference determines your choice between a custodial and a non-custodial wallet. Some users choose one option, while others opt for a combination of the two. Regardless of your choice, be sure to select one with the best security practices.
Key Takeaways
- Custodial wallets are wallets in which a third party holds private keys.
- Non-custodial wallets are wallets where users hold their private keys and passwords.
- Most users prefer custodial wallets since they are more convenient and easy to use.
- Custodial wallets have a complex user interface that can be hard to use for beginners.
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