Custodial vs Non-Custodial Wallet: Understanding Major Differences

Crypto wallets are the vaults where you store your digital assets. There are two different types of wallets, custodial and non-custodial. As the names suggest, the main distinguishing factor between these two types of wallets is custody of the private keys. In a custodial wallet, your private keys are kept secured with the cryptocurrency exchange. Some crypto enthusiasts consider this a threat to their assets' security and go for non-custodial wallets, in which the owners are responsible for securing their keys.

What is a custodial wallet?

Keeping your digital assets in a custodial wallet implies delegating the guardianship of the private keys to a centralised business. After saving your digital assets in these vaults, you do not need to remember your keys.

To transact cryptocurrency or NFTs (non-fungible tokens) from this wallet, you need to log in to your user account and provide the address input (public key of the recipient’s wallet). The wallet issuer is responsible for sending the concerned private key to that wallet address, thereby completing transactions.

Some major custodial wallets are Free Wallet, Binance, BitMex, BitGo, etc.

What is a non-custodial wallet?

If you do not want to trust a centralised business to manage your private keys, non-custodial wallets can be the ideal option. All the private keys and sensitive information remains limited to you in this type of wallet.

You can initiate and complete transactions of your crypto assets without inconveniences or delays due to zero third-party intervention and censorship. However, you need to ensure that you do not misplace the keys. Else, you may lose your ownership of the crypto assets.

Electrum, Zengo, TREZOR one, and Wasabi are some important non-custodial wallets that you can use to save your cryptocurrency. 

Custodial vs non-custodial wallets

Following are some of the major pointers of differences between these two types of wallets:

• Custody of the private key

As mentioned earlier if you store your crypto assets in a non-custodial wallet, your private keys stay safe with you. However, you may not retrieve/use your assets if you forget those. It may be a significant financial loss. Custodial wallets save the private keys on behalf of users. You do not have to take the burden of remembering them. Thus, crypto asset management becomes more convenient with this wallet, even for new users.

• Reflection of transaction reports

You can see real-time transaction reports in a non-custodial wallet. You may also withdraw your assets instantly. However, it may take time to show the report of transactions in a custodial wallet. You may have to wait for confirmation from the third-party wallet issuers to transfer your assets, delaying the overall process.

• Provisions of anonymity

Users must complete their e-KYC (Know Your Customer) process to use a custodial wallet. For this, they have to submit their credentials and identity proofs. However, users need not complete this process to store their crypto assets in a non-custodial vault. So, you can maintain your secrecy with this type of wallet.

• Withdrawal limit

There is no limit on the withdrawal of assets in a non-custodial wallet, letting you manage your cryptocurrency and NFTs unrestrictedly. However, some custodial wallets set withdrawal limits for users.

• Recovery of user accounts

You can recover your custodial wallet's recovery or ‘seed’ phrase after you forget it. You just have to request to generate a recovery link. However, this is not possible for a non-custodial wallet. If you forget the recovery phrase, you can no longer access your wallet and its assets.

Pros and cons of custodial wallet 

Following are the user-friendly features of this wallet:

• Zero transaction fees: Some custodial wallets, such as Free Wallet, let users transact their assets without paying gas fees.
• Investment opportunities: It lets you invest in ETFs (Exchange Traded Funds) through this wallet.
• Backup facility: You can back up your transaction report. Using this facility, you can undo any wrong transactions. 

Besides the pros, you also need to be aware of the cons of this custodial wallet:

• Less control: The centralised wallet service provider controls your transactions. It also has much authority over your assets. For instance, it can freeze your account, stopping you from using the asset at your liberty.
• Threat of data breach: As all your data, including the private key, are stored in the wallet. Therefore, any data breach can have a harsh impact. You may even lose all your assets in such cases.

Pros and cons of non-custodial wallet

Following are some of the advantages of this non-custodial wallet:

• Complete control over the assets: Users are responsible for managing all the assets stored within this wallet. No third-party agency becomes involved during transactions.
• Security of the stored cryptocurrency: The risk of a data breach is less in this wallet as private keys, passwords, etc., stay with you. 
• Easy transaction process: The transactions made through these platforms do not get censorship. You will not have to wait for the verification process made by the crypto exchange company to complete transactions.

Here are some of the drawbacks of the non-custodial wallet

• Difficult user interface: The user interface of this wallet may be inconvenient for new users. It may take some time to adjust to the interface of the wallet. 
• More responsibility for asset management: As you are the only person who manages all the assets, you are more accountable for storing your information, such as private keys and user information. Others may steal your cryptocurrency if they get access to these sensitive credentials.

Things to consider for maintaining the security of the crypto wallets

Here are a few simple ways to enhance the security of your assets:

• Set a strong password for your wallet.
• Enhance your security by starting two-factor authentication.
• Abstain from clicking on unknown links while accessing your wallet from your computer.

Bottom line

The custodial and non-custodial wallets have unique features and benefits along with limitations. By being aware of those, you can choose which wallet can benefit you the most. A custodial wallet makes cryptocurrency management more convenient. On the other hand, if you want the extra security of your assets, you can go with the non-custodial wallet.