The difference between a custodial wallet and a non-custodial wallet
Cryptocurrency wallets fall into two general categories: custodial wallets and non-custodial wallets.
In the real world, choosing a wallet is little more than a matter of style. In the digital world, choosing a wallet to store cryptocurrency is a full-on intellectual endeavor, with different choices to reflect your approach to security, simplicity, and saving.
While there are many possibilities, cryptocurrency wallets fall into two general categories: custodial wallets and non-custodial wallets.
Custodial wallets: Third party holds the “keys"
Custodial wallets are considered the default option to store cryptocurrency, since most exchanges automatically store any cryptocurrency that you purchase through their exchange in a wallet that's integrated with their platform. In this scenario, the exchange acts as the “custodian" of your wallet and is responsible for keeping your cryptocurrency secure. Although not an exchange, Bakkt is a custodial wallet. Using Bakkt, people can easily buy, sell, store, send or even spend cryptocurrency.
Custodial wallets typically feature user-friendly, intuitive customer interfaces that can feel safe and familiar to people who are used to interacting with a traditional bank. Also, they're convenient—storing your cryptocurrency with the same platform you use to buy, sell, and trade saves users the hassle of learning to navigate multiple platforms.
Many custodial wallet users take comfort in the fact that they offer some protection against getting locked out of their account. If you forget your password, for instance, you can typically recover it through the custodian after verifying your identity. Essentially, the third-party custodian holds the “keys" to your crypto—so whether through your standard login details or an account recovery process, they'll always be able to unlock it for you.
Non-custodial wallets: You hold the “keys"
Some cryptocurrency holders decide to move their digital assets into a non-custodial wallet in order to eliminate third parties. Many people choose this option because they perceive it to be more secure: If a third-party custodian is hacked, its customers can be at risk.
Additionally, a non-custodial wallet often appeals to people who are attracted to the decentralized nature of cryptocurrency. Non-custodial wallets don't involve anyone else except you—you have sole access to your assets.
Of course, with great power comes great responsibility. Unlike with a custodial wallet, there's no third party to step in and help you recover your account. Instead, you'll typically establish a recovery phrase consisting of 12 to 24 words known as a “seed phrase." Your seed phrase serves as a private key to your account; if you forget it, you risk being locked out of your account forever.
If you decide on a non-custodial wallet, consider writing your seed phrase down on a piece of paper and locking it in a safe deposit box at your bank or an in-home vault.
Making an active and informed choice
Whether you choose a custodial or non-custodial wallet, what's most important is to make an active and informed choice about which one more closely meets your needs and preferences. Additionally, spend some time researching the possibilities within each category to learn more about specific advantages that come with different wallets. For example, some custodial wallets may allow you to earn interest or rewards on the cryptocurrency that you store. Choose wisely, and stay open to new possibilities as they arise.