What Is a Cold Wallet? Types, Benefits, and Setup Guide

If you invest in cryptocurrency, you need a digital wallet to secure your assets. Exchanges like Coinbase offer their own wallets, which gives their users the convenience of securing their coins, tokens and NFTs right on the same platform where they buy, sell and trade them. However, the most convenient option is not necessarily the safest. Before you invest in crypto, you should understand the difference between hot wallets and cold wallets, and how they can impact your safety when trading digital assets.

How Do Cold Wallets Work?

Cold wallets work by protecting important tools that you use to access your account.

Private Keys and Public Keys

One of the reasons that digital assets are secure is that they can only be accessed by a private key that should be known only to the owner. These private keys are best stored in cold wallets, which are offline and protected from online threats. You can think of private keys as the password to your digital asset account that are created by your wallet. However, unlike a bank password, your private key cannot be changed, according to Trezor.

Your public key, as opposed to your private key, is akin to your bank account number. You can share your public key with others so that you can receive payments in your wallet.

Security Features of Cold Wallets

A cold wallet is a way you can store your digital assets offline, so they are protected from hacking, phishing, and other online threats. You can think of a cold wallet as being somewhat like a USB drive; when you unplug the drive, it is no longer connected to the internet and vulnerable to online threats. This is how a cold wallet effectively works. It is “cold” because it is not plugged into any electronic network. This makes them more secure than hot wallets, which are always “on” and connected to the internet.

Types of Cold Wallets

There are a few different types of cold wallets. All serve the same purpose, but they function in different ways.

Hardware Wallets

As the name suggests, a hardware wallet is a physical cold wallet that is something like a USB drive. Once you detach it from the internet, you are protected against a whole host of vulnerabilities.

Popular hardware wallets include the following:

Trezor Model T

At $250, the Model T is one of the more expensive hardware wallets on the market. It’s an upgrade to the Trezor One, which launched the cold storage industry when it debuted as the world’s first hardware wallet in 2014.

It doesn’t support iOS, but its full-color touchscreen interface is leaps and bounds above the monochrome screens with two-button controls found on most cold wallets. It supports more than 1,200 tokens, can store NFTs and is known for vault-like security that continues to frustrate hackers.

Ledger Nano X

The Model T’s primary competitor is the Ledger Nano X, which boasts the same level of military-grade security that renders the Model T virtually impenetrable. It costs $100 less, but users have to navigate it using the standard dual-button controls and monochrome screen instead of the brilliant touchscreen display found on the Model T. Unlike the Model T, it is iOS-compatible.

Popular devices like Ledger Nano S, Ledger Nano X, and Trezor.

Hardware wallets offer excellent protection of your digital assets, but they can be inconvenient, since you’ll need to hook up to the internet every time you want to make a transaction. They can also be expensive and confusing to use for beginners.

Paper Wallets

A paper wallet is a physical printout of your public and private keys. As it’s somewhat old-fashioned technology, it can’t be hacked. The only way that your keys can be used by bad actors is if the actual piece of paper is lost or stolen. Paper wallets used to be quite common, according to Bitcoin Magazine, but they have phased out in popularity as other, more modern methods of keeping a cold wallet have evolved.

You can create a paper wallet via a generator app which will create your keys for you. They often come with a printed-out QR code to facilitate transactions.

Setting Up a Cold Wallet

Before you can use a cold wallet, you have to set one up. Here’s what you’ll need to do.

Choosing the Right Cold Wallet

Security is the primary function of a cold wallet, so it’s essential that you pick one that has airtight security features that have been vetted by experts and users alike. In other words, picking a cold wallet is not the time to be looking at some new, fly-by-night company. It’s best to stick with existing products that have been tested in the real world.

Of course, cost should also be a consideration when selecting a cold wallet. While you don’t want to go so cheap that the reliability of the wallet is in question, you may not need the most expensive product on the market either.

Step-by-Step Guide To Setting Up a Hardware Wallet

Once you’ve selected a hardware wallet, here are the steps to setting it up, according to Coinbase:

Buy the wallet
Install the proper software from the official company website
Transfer crypto from an exchange or hot wallet into the hardware wallet

After you set up your hardware wallet, you’ll want to generate a recovery seed as a backup. A recovery seed, according to Trezor, is a recovery phrase that you can remember to retrieve the information in your wallet. It’s a 12-to-24 word ordered sequence that represents the information necessary to recover your wallet.

How To Safely Store Your Paper Wallet

If you want to keep your crypto safe, you should guard your paper wallet as you would with any valuable asset. Keep it in a fireproof safe, a bank safety deposit box or other highly secure location so that no one else an access it.

Benefits of Using a Cold Wallet

The benefits of using a cold wallet are numerous. Here are the main features.

Enhanced Security

The primary function of a cold wallet is to prevent unauthorized access to your crypto. Legitimate cold wallets are excellent at doing this because by definition they have no electronic connection to the internet, meaning they can’t be accessed by outsiders online. This makes them essentially unhackable unless someone gets a hold of your security keys. With a cold wallet, you won’t have to worry about phishing attacks or malware either.

Offline Storage for Long-Term Holding

You can think of a cold wallet as long-term storage for your crypto assets. While they are inconvenient if you plan to trade frequently, if you just want to hold on to your store of crypto, a cold wallet is an excellent home. You can hold on to your assets in a secure location that can’t be accessed electronically by others. This makes them perfect for long-term investors.

Ownership and Control

With a hardware or paper wallet, you physically hold your private key and assets. This means that you won’t have to rely on third parties to access your crypto and your personal keys. Cold wallets give you complete control over the assets that you own.

Cold Wallet vs. Hot Wallet: Which Is Better for You?

Both hot and cold wallets serve vital functions in the crypto world. But one might be better for you depending on how you use your crypto. Here’s what you’ll need to make the right choice for you.

Security Comparison

When it comes to security, there’s just no comparison between hot and cold wallets. As hot wallets are connected to the internet, they have a higher risk of being attacked by nefarious characters. While your wallet is hot, you run the risk of losing your crypto to hackers, or of seeing your wallet infected with malware. Cold wallets, on the other hand, are offline and secure from online threats.

Convenience and Accessibility

What hot wallets give up in security, they make up for in convenience for some holders. As hot wallets are always “live,” you can use them to conduct transactions at any time. While this leaves them more vulnerable, they are infinitely more accessible. This makes them an excellent choice for those looking to make frequent transactions like daily trading or sending payments.

While cold wallets offer much more security than hot wallets, they require much more effort to access and use.

When To Use Each Type

In a nutshell, cold wallets are best for long-term investors or those who want the most security they can get for their crypto. Hot wallets are best used by active traders or those who make frequent transactions.

Common Mistakes to Avoid When Using a Cold Wallet

Even though a cold wallet is relatively secure, there are some mistakes you can make that could cost you. Here are some things you’ll want to avoid.

Losing Your Recovery Seed

Your recovery seed is your backup for accessing your cold wallet. If you lose your key, you can still access your assets if you remember your recovery seed. But if you lose that also, you may never gain access to your digital assets. Just as you should do everything in your power to secure your cold wallet, you should also protect your recovery seed just as diligently.

Not Using a Backup

The very security that links only you with your digital assets can work against you if you don’t have backup ways to access it. For this reason, while it’s essential to have a backup for your cold wallet, it’s also a good idea to to have redundancy in the form of multiple backups.

Storing Cold Wallets in Locations That Aren’t Secure

Just because a cold wallet isn’t attached to the internet doesn’t mean it’s 100% secure. Just like your actual purse or wallet, or anything else you own of value, you shouldn’t simply leave it lying around. Keep your cold wallet in a secure location, such as a safety-deposit box or a home safe, rather than in an easily accessible place like a drawer in your home.

The Costs of Cold Wallets

Cold wallets can serve an invaluable function, but you’ll have to weigh their benefits against their costs.

Initial Costs

Cold wallets can run from bargain-basement prices of about $29 all the way to $400 and more. Whether or not that cost is worth the security of a cold wallet to you is a decision that only you can make. However, if you’re planning to invest in digital assets for the long run, it’s likely worth the cost.

Ongoing Maintenance

Generally, the price of your wallet is the only expense you’ll face when it comes to cold storage, as there is no fee to store crypto in a cold wallet. However, if your wallet is ever lost or damaged, you might have additional maintenance, repair or replacement costs.

Most credible experts recommend that both novice and veteran crypto players secure their holdings with the highest level of security, which can be found only in a hardware wallet.

There are less expensive options than the ones discussed here, but you should stick with reputable, proven and trusted brands, even if their devices cost more. Price is, of course, a consideration, but by going for an inferior cold wallet with a lower price tag, you could wind up spending much more in the long run in the form of assets lost if the cheaper device proves vulnerable.

Andrew Lisa contributed to the reporting for this article.

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What Is a Cold Wallet? Types, Benefits, and Setup Guide

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