What are Crypto Wallets?

Crypto wallets are software that help keep your private keys for one or more blockchain networks safe. They are akin to vaults in the physical world.

Crypto Wallets are built in a way that when your private keys are inside them and locked, they cannot be used to transfer crypto, yet when you need to make transactions, all you need to do is bring them back online.

Types

There are several types of crypto wallets depending on how they are built. A few main categories of crypto wallets are hardware wallets, hot wallets, cold storage wallets, and paper wallets, among others. Although all of them work in similar ways, i.e., help you securely access your crypto funds, each wallet is built according to a particular need.

Software or Hot Wallets

Software wallets are desktop or mobile applications that secure your passphrases. These applications are encrypted in a way that hackers are unable to crack it open by any means. These applications stay online for most of the time they are used.

Software wallets are typically available for free like MetaMask or Trust Wallet. However, they charge a certain amount which is baked in the network transaction fees. For example, if it costs $0.10 to transact on Ethereum, your wallet could charge you a little higher, i,e., $0.12.

Hardware Wallets or Cold Wallets

Hardware Wallets are those crypto wallets where the wallet software has its own independent hardware, rather than staying as an application on your mobile or desktop. These wallets are more safer than software or hot wallets because they stay offline for most of their life. They are brought online only when you need to transact, and taken offline soon after.

Some common hardware wallets are Ledger, Safepal, Ellipal, Trezor, etc.

It is essential to clarify a common misconception that hardware wallets are lost when they are physically damaged, which is false. Hardware wallets can be recovered by the seller (vendor) when they are lost, corrupted or damaged beyond recovery.

Cold Storage or Vaults

Cold Storage or Crypto Vaults are hardware wallets that come with secured chips, firmware, OS, and encrypted wallets. These wallets are meant for institutional use or for investors with high networth. Cold Storage wallets are basically slated for a deep sleep for months or years and only brought online when the time is essential (for maintenance, audits, transfers, etc.). They are like cold wallets but have much more durability and security.

Cold Storage wallets are typically manufactured specifically for individual clients such as MicroStrategy, Coinbase Prime, Coinbase Custody, and other HNIs, based on their demands.

Despite their tough built, these wallets can also get hacked if proper password hygiene is not maintained. One such incident happened in 2025 when Bybit was hacked for $1.4 billion when one of the wallet operators fell for a high-end phishing scam.

Now that we know who's behind the @Bybit_Official attack. Let's look at how the hack actually worked.

At a high level, the hack involved the 4 broad group of events:

1. Attacker deployed a trojan contract and a backdoor contract.

2. Attacker tricked signers of the upgradeable… pic.twitter.com/5repcdcsDB

— David Leung (@dhkleung) February 21, 2025

Paper Wallets

Paper Wallets are just a piece of paper on which seed phrases are written so that whenever the user needs the wallet, they can install the application, login through seed phrases and use the wallet. During other times, the wallet remains offline similar to a cold wallet.

These wallets cost nothing, yet provide higher security than software wallets which remain always online. However, their efficacy has been questioned time and often because of the lack of data around them.

Working

A crypto wallet just stores all the private keys of all the blockchains where you have funds. All the funds remain inside a blockchain and also are transferred within it. 

When you login into a crypto wallet, you see 12, 16 or 24 word passphrases which are run through a hash function to obtain private keys of all the blockchains that the wallet supports.

An additional password is set on the wallet for easy access. Only when you restore the wallet, you need the seed phrases.

A wallet which is in use, works in the following way:

1. User initiates a transaction.
2. The wallet accesses the blockchain funds through private keys stored in it.
3. The user sees the amount of crypto they have on each blockchain.
4. They set the amount to be sent.
5. They then sign the transaction with the private keys they have on the wallet.
6. The transaction is completed and the new balance is reflected on the wallet interface.

Advantages of Using Crypto Wallets

Crypto wallets have several advantages than storing your keys on the exchange wallet.

1. You own your custody and prevent any FTX-like crash where users lost most of their funds.
2. Authorities cannot seize your crypto on any grounds.
3. Centralized entities cannot freeze your funds on arbitrary or any ground.

Associated Risks

Crypto wallets have a major risk of losing private keys, which when lost locks all the crypto inside the wallet forever. Wallets are built in a way to prevent any access without seed phrases.