As you progress in your understanding of how Bitcoin works, you will continue to find new ways to deal with your bitcoin stack.
Here, we will go through steps that many of us follow, though not necessarily all or in the same order. Also, you may miss steps here that you took yourself but are not listed below.
This article focuses on building a Bitcoin Wallet Set-up with “Base Layer bitcoin”. You may refer to the article Layers to get a better understanding of how the Bitcoin Network is evolving beyond this Base Layer.
Level 0 – Not your Key, not your Coin!
Think you own bitcoin? Think twice when you “own” bitcoin on an exchange or through an ETF.
Exchange: A common way to acquire bitcoin is through an exchange. You wire fiat (US dollar, Euro) to the exchange and buy bitcoin. Your stack is visible in the app of the Exchange. However, if the exchange goes bankrupt or would rug-pull you, you have nothing left. Continue acquiring bitcoin through your exchange, but make sure to regularly withdraw to your Bitcoin Wallet so it really becomes “your bitcoin”. Not your Key, not your Coin!
ETF: Nowadays, it is fairly easy to get “exposure” to bitcoin through your brokerage account. You may already own stocks and bonds. Likewise, you can buy bitcoin-ETF. However, same as with the exchange, this is not your bitcoin. Not your Key, not your Coin!
Conclusion: Bitcoin was invented exactly because true ownership of digital fiat money (Euro, dollar etc.) is impossible. You will always be dependent on the bank or government to have access to “your money”. Likewise, if you hold bitcoin on an exchange or through an ETF, you do not own bitcoin. The ethos of Bitcoin is to own & control your bitcoin – your money. Be your own bank.
Level 1: your first Bitcoin Wallet
You have bitcoin on a simple Bitcoin Wallet app, normally on your smartphone. The phone stores the Keys for you. This allows you to spend your bitcoin from the Wallet: the Bitcoin Wallet app “signs” the transaction for you so you can send bitcoin to someone else.
You will also write down the Keys (12 or 24 words) on a piece of paper. If you accidentally loose or break your phone, your written paper allows you to restore your wallet with the funds in it on your new phone.
You need only one device (e.g. your smartphone) to make a transaction. This is called “single sig”: only 1 signature required.
Level 2: a Bitcoin Hardware Wallet – your savings account
You have meanwhile acquired some bitcoin and need to think about keeping it save. With a Bitcoin wallet on your phone, the Keys could potentially be leaked because your phone is connected to the internet. With a Hardware wallet this is very unlikely, since the Keys are stored on the device.
You will also write down the Keys (12 of 24 words) on a piece of paper. If you accidentally loose (access to) your Hardware Wallet, your written paper allows you to open another wallet with the funds in it.
You only need your Hardware Wallet to make a transaction. Same as with the Bitcoin Wallet above, only 1 signature is required – “single sig”.
For additional safety you can add a Passphrase on top of the Keys. It is as if you add a password on top of the Keys. If someone gets access to your Keys, they would still need the Passphrase to access the funds. A set-up worth considering is putting some bitcoin on the wallet without the passphrase. Someone getting access to (the Keys of) your Hardware Wallet will only find these funds. The other funds would still be safe behind the passphrase.
The Passphrase is, besides with Hardware Wallets, possible with (many) other wallet-applications. Most important to remember once you would start using Passphrases: never loose your Passphrase or you will loose the funds behind it.
Level 3: Heritage planning through Multi-Sig
With bitcoin, nobody has access to your funds without the Keys. You need to plan for your heritage.
With Multi-Sig you can share access to the funds by requiring more keys to spend the funds. A well-know scheme is the 2 of 3. You create 3 Keys and any two Keys are required to spend bitcoin from your wallet.
For instance, with two children as your heirs, you share 1 Key with each of them. Your children would need to bring the 2 Keys together to get access to the wallet.
You can also use Multi-Sig for your own Set-up. If you keep the 12 or 24-words of the 3 Keys in different (physical) locations, the accidental loss or exposure of one Key will leave your funds in place.
Special note: besides the Key-threshold (e.g. 2 of 3), you will also need to keep a “Multi-Sig set-up file” with each written 12 or 24-word Key in order to restore the Multi-Sig wallet.
Level 4: Brain Wallet (also: Border Wallet)
Up to this level, you have taken good care of making sure you and your heirs have access to your funds. The access, however, depends on the access to the devices with the Keys, and the written 12 or 24 word backup-Keys. If you loose access to the devices as well as the back-ups, you are left without access to your funds.
While for many the aforementioned scenario would sound far-fetched, it is a scenario worth considering. If you have to flee your country, you may not have the time to collect your devices or back-ups. More importantly, with all your Keys on you, you are at risk of loosing them. Imagine you come across a criminal or customs official forcing you to give up your Keys. This is where the Brain Wallet comes in.
It is generally not advised to memorize your 12 or 24 word back-up. The chances of forgetting the words and/or the order is simply too big. A self-chosen pattern can be much more easily remembered.
A Brain Wallet uses your ability to remember the self-chosen pattern and project it on a sheet with all possible wallet-back-up-words (2048 words). You already put these 2048 words randomly on a sheet when you created your Brain Wallet.
What you need to recover your wallet is a) the pattern, b) the (encrypted) 2048-word list and c) one word (=the checksum of the wallet).
The pattern and the one-word will be in your head. The 2048-word list can be carried physically, or stored (encrypted) on a USB-stick or even in your email box (provided you have access to it with only a computer and internet-connection). Now, where-ever you are, you are able to restore your Brain Wallet and find the funds.
Level 5: Organizing, fine-tuning and checking your Wallet Set-up
By now you have your Wallet Set-up in place. You have one (or more) mobile wallet(s). You have some Multi-Sig solutions for yourself and/or with your heirs and others. You have a Hardware Wallet and potentially a Brain Wallet.
With all these wallets, you need to find a way to keep track of where to find the wallets and their respective back-ups. Perhaps you will use an (encrypted) sheet or even physical document. However, treat the Wallet Set-up document with care and store it somewhere save. Anybody who gets hold of your Wallet-set-up organization sheet potentially has the “keys” to find your Keys.
When looking at your Wallet Set-up, you may feel the need to fine-tune from time to time. Add another back-up Key. Involve a friend or family member to hold one key from your Multi-Sig wallet. Move funds from one to another Wallet.
As an example, once you feel the chances to flee your country increase, you may want to move more funds to your Brain Wallet. Or you make your Hardware Wallet (partially) accessible with a Brain Wallet.
A final and very important part of your Wallet Set-up is regularly checking whether the set-up is still intact. You will need to check on a regular basis (e.g. yearly) whether the written back-up words are still in their place and readable. From time to time, recreate your Brain Wallet so you know it will work when you may ever need it.
Level X: Never disclose your wealth
An important advice is to never tell others how much bitcoin you possess. While it is perfectly good to be enthusiastic about Bitcoin and even assist others in their journey, never disclose how much bitcoin you own. The number-one reason for this is the following: “the 5 dollar wrench attack”.
Bitcoin comes embedded with rock-solid safety and security measures. Much like using proper passwords for your email or bank accounts, the Keys to your wallets cannot be guessed.
However, when a criminal knows you own bitcoin, they may come after you. All they need is “a five dollar wrench” and threaten you with it.
When the criminal does not know how much you own, you may surrender a “decoy” wallet with a relatively small amount (but still a reasonable amount from the criminal’s perspective). Hopefully the criminal will take it and leave.
Now imagine this criminal has overheard how much bitcoin you posses, and confronts you with this. The decoy wallet will not do it and the threat may continue till you give up your actual holdings…
Let us hope the aforementioned will not happen to you, me, or anybody. But the fact is that with this new Paradigm called Bitcoin, the responsibility for your own wealth depends on yourself.
Fortunately, many tools are available to continuously upgrade your Bitcoin Wallet Set-up. This article has highlighted a few. However, much more is possible. In the end, with some effort, anybody can acquire part of their wealth in bitcoin – and still sleep well at night.
Would you like assistance to advance your Bitcoin Wallet Set-up? Contact me!