Self-custody is when people are fully responsible for controlling and securing their funds. For example, in traditional finance, you can achieve self-custody by using cash. You get to decide how and where to store your cash: in a leather billfold, in a pocket, under the mattress, etc. If you lose cash or someone steals it, it would mean you haven’t cared to think through the security of your funds.
The same applies to cryptocurrencies. While storing value in your mattress will not be of much help here, users can attain self-custody in crypto by using a non-custodial (also known as self-custodial) wallet. For crypto enthusiasts accustomed to storing their funds on crypto exchanges, self-custody might seem intimidating or daunting at first. However, after a little clarification and practice, anyone can manage a self-custody wallet with confidence.
Custodial vs. self-custodial wallets
Although the term “wallet” sounds like something to put your money inside, crypto wallets don’t actually contain crypto funds. They rather secure private keys which are required to access funds stored on the blockchain. This means those who own private keys are the actual possessors of funds. That is why, crypto enthusiasts like to say “not your keys, not your funds” when it comes to using custodial service providers.
Custodial wallets
Custodial wallets keep private keys safe on the user’s behalf, holding and securing assets for them. Custodial wallets are typically provided by crypto exchanges and other third-party platforms. This means that custodial wallets function in a similar way as a bank account. You own your funds but they are technically possessed by a third party. When you make a transaction, you actually ask for permission to move your funds, which can be denied for various reasons.
Custodial wallets could be seen as a more straightforward solution since users don’t need to worry about how to store their private keys and enjoy shifting the responsibility for securing their funds. However, using custodial wallets also requires users to trust third parties.
Self-custodial wallets
Self-custodial, or non-custodial, wallets give users complete control of their private keys and hence their funds. This means assets stored in such wallets are exclusively owned and accessible by their users. While non-custodial wallets empower users to become more independent, their usage doesn’t increase the security of their funds by default.
The main reason is that users must also trust themselves in terms of the security of private keys. It is a user who needs extra caution and attention to keep funds safe. There is no one to help you in the event that you lose access to your self-custodial wallet. To avoid such situations, you can create a backup for your wallet (also known as a recovery phrase or a seed phrase).
How to secure a self-custodial wallet?
Here are a few established practices that can help you increase the security of your self-custodial wallet:
- Create a seed phrase for your wallet and store it in a safe place. Do not tell it to anyone, and write it down on paper or make a physical copy using other methods. Since private keys and seed phrases are typically quite long, try to avoid using “brainwallet,” or storing data in your memory.
- It is not recommended to make a digital copy of sensitive data such as a private key or a seed phrase. If you share a private key or a seed phrase online, other people will be able to access your wallet. In turn, if a private key or a seed phrase is stored online, it can be stolen using malware.
- Be careful with emails that ask you to provide confidential information about a crypto wallet or ask you to go to unknown websites or send assets. It could be a phishing attempt where scammers want to get a login and password to your wallet by imitating websites of popular crypto services (especially your wallet’s website). While setting up some self-custodial wallets, you may not need to provide personal information such as an email address or ID.
- Set up two-factor authentication (2FA) for your wallet to add an extra layer of security to your funds. You can also enable it to request 2FA confirmation each time you make a transaction or access your wallet.
Can a self-custody wallet provider access funds?
When using a self-custodial wallet, the private key is generated on your device or your piece of software and is accessible only by you. As a result, self-custody wallet providers cannot access funds stored in your wallet. Even if the provider stops supporting the wallet or goes out of business, your funds are still in your possession. But for that, a seed phrase or other recovery mechanism must be in place. In this case, you can just enter a seed phrase by using another wallet provider to access funds.
Types of self-custodial wallets
Self-custodial wallets have different functionality, offer unique sets of available assets, and support unique security measures. Don’t forget to do your own research when selecting a self-custodial wallet. Here are the most notable wallet types and how to set them up:
Software wallet
A piece of software that you can download on your device to use as a crypto wallet. Software wallets can be divided into mobile, desktop, and browser wallets:
- Mobile wallet — an app that users can download on their phones to access digital assets. Quite often, such wallets offer the direct purchase of cryptocurrencies. In some cases, they may provide access to Web3 solutions. Examples: BRD, Jaxx, Blockchain.
- Desktop wallet — a piece of software that you can download on your desktop device. Predominantly, desktop wallets support several operating systems, including Windows, macOS, Debian, and Ubuntu. While some may act as cold wallets, others only function as hot wallets. Examples: Exodus, Wasabi wallet, Atomic wallet.
- Browser wallet — a web browser with an integrated cryptocurrency wallet or browser add-on that can communicate with decentralized services and applications. Examples: Brave, Metamask, Datawallet.
How to set up a software wallet?
Typically, setting up a software wallet only takes a few minutes:
- Download a piece of software from the wallet provider’s official website.
- Enter a password and a name for your wallet.
- Some wallet providers may additionally ask you to provide an email address and phone number to activate certain security features.
For the most part, that’s all you need to do to start using a software wallet and achieve self-custody.
Smart contract wallet
Certain smart contracts can also act as wallets. It doesn’t feature a seed phase but offers social recovery through trusted contacts or devices. If you lose access to your smart contract wallet, you can trigger a social recovery process and restore access to funds if the majority of backups agree. Such wallets are typically dedicated only to a certain blockchain. Examples: Argent, Gnosis Safe, Daaper.
How to set up a smart contract wallet?
Using a smart contract wallet requires following steps similar to software wallets, but here a user also needs to activate their wallet. For that, they need to make a transaction to the smart contract address and pay a certain gas fee. After that, they will be able to access the smart contract wallet features.
Hardware wallet
A special device dedicated to protecting private keys. Most of the time the hardware stores crypto offline and can be connected to another device via Bluetooth or USB. The private key never leaves the device which makes it one of the most secure options to store digital assets. However, hardware wallets may have limited functionality in terms of accessing Web3 solutions such as staking and savings. Examples: Ledger, Trezor, KeepKey.
How to set up a hardware wallet?
In order to start using a hardware wallet, a user first needs to purchase a specific device from a hardware wallet provider’s website or an official partner. In most cases, you need to follow the next steps to make your hardware wallet ready to store digital assets:
- Connect a hardware wallet to your computer or download a dedicated mobile app that lets you interact with the hardware wallet.
- Set a pin for your hardware wallet.
- Download the respective crypto asset integration. For example, to store bitcoin on a hardware wallet, you need to download a bitcoin add-on for your hardware wallet. You can do it via desktop or mobile app.
Keep in mind that hardware wallets have limited capacity, meaning you can store only a certain set of asset integrations at the same time.
Full node
A primary client dedicated to a certain network that stores the full history of the blockchain and verifies transactions. Running a full node helps the network to stay resilient and grants a user full autonomy since the software, hardware, and transaction data are under the control of the user. However, running a full node could be a tech-savvy endeavor. In turn, nodes can only operate within their own blockchain network. Example: Bitcoin Core, Geth, Casa.
Setting up a full node
A self-custodial wallet is a secondary purpose for full nodes. Predominantly, people run a full node to contribute to the security of a certain network or become network validators.
Before setting up a full node, make sure that you have enough free space on your computer and have a constant internet connection. The process of configuring a full node may significantly differ depending on the network and operating system. Make sure to follow the steps provided by full node developers to set up your wallet correctly.
Alternatively, you can purchase a configured device that acts as a full node. However, you may still need to perform certain actions in order to connect the device to the network.
Conclusion
“Becoming your own bank” or self-custody is one of the main ideas behind cryptocurrency. In the first two paragraphs of the Bitcoin whitepaper, the word “trust” appears six times. That’s because Satoshi Nakamoto, creator of Bitcoin, viewed bitcoin and hence crypto as a way to achieve self-custody and financial freedom in the digital world.
Even more than ten years after publishing Bitcoin’s whitepaper, self-custody remains one the crucial parts of crypto identity. As a result, the crypto community continues to develop and improve self-custodial wallets, empowering users to join the crypto space with relative ease and convenience. With a variety of self-custodial solutions available right now, users can choose their own path to achieve self-custody and secure their funds along their crypto journey.
Disclaimer: For information purposes only. Not investment or financial advice. Seek professional advice. Digital assets involve risk. Do your own research.
