Wallets

The wallet software is used to generate and store cryptographic keys. It performs various useful functions, such as receiving and sending Bitcoin, backing up keys, and keeping track of the balance available. Bitcoin client software usually offers both functionalities: Bitcoin client and wallet. On disk, the Bitcoin Core client wallets are stored as a Berkeley DB file:

$ file wallet.dat
     wallet.dat: Berkeley DB (Btree, version 9, native byte-order)

Private keys are generated by randomly choosing a 256-bit number provided by the wallet software. The rules of generation are predefined and were discussed in Chapter 4, Public Key Cryptography. Private keys are used by wallets to sign the outgoing transactions. Wallets do not store any coins, and there is no concept of wallets storing balance or coins for a user. In fact, in the Bitcoin network, coins do not exist; instead, only transaction information is stored on the blockchain (more precisely, UTXO, unspent outputs), which are then used to calculate the number of bitcoins.

In Bitcoin, there are different types of wallets that can be used to store private keys. As software, they also provide some functions to the users to manage and carry out transactions on the Bitcoin network. Let's take a look at the common types of wallets.

Non-deterministic wallets

These wallets contain randomly generated private keys and are also called Just a Bunch of Key wallets. The Bitcoin Core client generates some keys when first started and also generates keys as and when required. Managing a large number of keys is very difficult and an error-prone process that can lead to the theft and loss of coins. Moreover, there is a need to create regular backups of the keys and protect them appropriately, for example, by encrypting them in order to prevent theft or loss.

Deterministic wallets

In this type of wallet, keys are derived from a seed value via hash functions. This seed number is generated randomly and is commonly represented by human-readable mnemonic code words. Mnemonic code words are defined in BIP39, a Bitcoin improvement proposal for Mnemonic code for generating deterministic keys. This BIP is available at https://github.com/bitcoin/bips/blob/master/bip-0039.mediawiki. These phrases can be used to recover all keys and make private key management comparatively easier.

Hierarchical deterministic wallets

Defined in BIP32 and BIP44, HD wallets store keys in a tree structure derived from a seed. The seed generates the parent key (master key), which is used to generate child keys and, subsequently, grandchild keys. Key generation in HD wallets does not generate keys directly; instead, it produces some information (private key generation information) that can be used to generate a sequence of private keys. The complete hierarchy of private keys in an HD wallet is easily recoverable if the master private key is known. It is because of this property that HD wallets are very easy to maintain and are highly portable. There are many free and commercially available HD wallets available, for example, Trezor (https://trezor.io), Jaxx (https://jaxx.io/), and Electrum (https://electrum.org/).

Brain wallets

The master private key can also be derived from the hashes of passwords that are memorized. The key idea is that this passphrase is used to derive the private key and if used in HD wallets, this can result in a full HD wallet that is derived from a single memorized password. This is known as a brain wallet. This method is prone to password guessing and brute-force attacks, but techniques such as key stretching can be used to slow down the progress made by the attacker.

Paper wallets

As the name implies, this is a paper-based wallet with the required key material printed on it. It requires physical security to be stored.

Hardware wallets

Another method is to use a tamper-resistant device to store keys. This tamper-resistant device can be custom-built. With the advent of NFC-enabled phones, this can also be a secure element (SE) in NFC phones. Trezor and Ledger wallets (various types) are the most commonly used Bitcoin hardware wallets:

Figure 7.5: A Trezor wallet

Online wallets

Online wallets, as the name implies, are stored entirely online and are provided as a service usually via the cloud. They provide a web interface to the users to manage their wallets and perform various functions, such as making and receiving payments. They are easy to use but imply that the user trusts the online wallet service provider. An example of an online wallet is GreenAddress, which is available at https://greenaddress.it/en/.

Mobile wallets

Mobile wallets, as the name suggests, are installed on mobile devices. They can provide us with various methods to make payments, most notably the ability to use smartphone cameras to scan QR codes quickly and make payments.

Mobile wallets are available for Android and iOS and include Blockchain Wallet, Breadwallet, Copay, and Jaxx:

Figure 7.6: Jaxx mobile wallet

The choice of Bitcoin wallet depends on several factors such as security, ease of use, and available features. Out of all these attributes, security, of course, comes first, and when deciding about which wallet to use, security should be of paramount importance. Hardware wallets tend to be more secure compared to web wallets because of their tamper-resistant design. Web wallets, by their very nature, are hosted on websites, which may not be as secure as a tamper-resistant hardware device.

Generally, mobile wallets for smart phone devices are quite popular due to a balanced combination of features and security. There are many companies offering these wallets on the iOS App Store and Google Play. It is, however, quite difficult to suggest which type of wallet should be used as it also depends on personal preferences and the features available in the wallet. Security should be kept in mind while making a decision on which wallet to choose.

Now that we've discussed the topic of Bitcoin wallets, let's see how Bitcoin payments can be adopted for business.