Keeping your Cryptocurrency Safe: Hot vs Cold Wallets

Mar 12, 2019

A hot wallet is any cryptocurrency wallet connected to the internet. On the other hand, a cold wallet or cold storage refers to any cryptocurrency wallet that is not linked to the Internet, and thus is not vulnerable to hackers, or limited by technical or legal issues. When you own cryptocurrencies, the importance of safeguarding your funds is determined by the kind of wallet you have and using both wallets for different reasons is something that many crypto holders do. But why should anyone worry about cold or hot wallets?

The hard lessons taught to many crypto holders and investors after the QuadrigaCX incident have highlighted the need for more protection and necessary measures so that such events are stopped from happening again.

What happened with QuadrigaCX’s cold wallets?

When Quadriga Fintech Solutions Corp. founder Gerald Cotten died, account holders were unable to access their funds. Despite efforts to recover millions in crypto from the digital wallets, the wallets were, in the end, found to be empty. As it now appears, they have, in fact, been empty before his death.

The encrypted keys that would allow for the recovery of C$190 million ($143 million) of cryptocurrencies, were unfortunately held in offline storage by Cotten himself. With his death, 115,000 customers were left with no funds, as around C$260 million of cash and cryptos were feared to have been lost forever. Topping it all off, the cold wallets that Quadriga used have been empty since April, according to a Bloomberg article.

Cotten’s wife had explained that her husband had moved the coins to cold storage to protect them from hacking and virtual theft. Cotten held the master key to unlock the wallets on his laptop, and no one else knew the passphrase to unlock the device.

Auditor Ernst & Young which was appointed to investigate, has secured access to Cotten’s laptop, revealing that the wallets were actually empty months before his death.

In their report, Ernst & Young investigators indicated that they couldn’t understand where the bitcoins in cold storage had gone, but they did discover that Cotten had created 14 user accounts. Their creation was described as being “outside the normal process,” and that they might have been used to trade on the QuadrigaCX exchange.

As the E&Y investigators are gathering more information, Kraken is offering a reward of $100,000 to whomever has any information about where the exchange’s cash has gone.

Hot or Cold?

While for many crypto investors a cold wallet is a safe wallet, since it’s disconnected from the web and can easily be plugged into a computer, only the owner has access to the funds.

However, when it comes to crypto exchanges, many of them choose to use a multi-signature wallet system. This means that people working for a given exchange have access to cold wallets using private keys. In the case of QuadrigaCX, the majority of users’ funds were under the sole control of Cotten and his single-signature wallet.

Obviously, both cold and hot wallets have their purposes. According to Success Resources, a hot wallet is usually used to store small amounts and make transactions on the go. But when it comes to a larger amount of cryptos, users move these to offline storage or cold wallets, which can be seen as similar to savings accounts. But, the QuadrigaCX mystery is not only about the kind of wallet that was used. The central concern that arises, and which may help the wider use of cryptocurrencies, is simply, the need for more regulation in the crypto space.