Layered Security: How the Multisig Wallet Works

According to data from Glassnode, the total number of Bitcoin wallets surpassed 1.21 billion in November 2023. This exponential growth reflects the increasing global adoption of cryptocurrencies. However, as user numbers grow, so do the risks: private key theft, human errors, and even the death of sole fund holders. It is in this context that the (multisignature) multisig wallet emerges as a robust protection solution.

Why Security Matters More Now

In today’s digital environment, where the internet provides easy access to everything, data security has become critical for companies, governments, and individuals. Cryptocurrencies, being digital versions of money, attract malicious actors seeking to compromise digital assets by any means possible.

Traditional single-key wallets work well for small amounts but pose a significant risk: if that key is stolen, lost, or forgotten, the funds disappear. A notable case illustrates this: a company lost US$137 million when its CEO, the sole private key holder, suddenly passed away, leaving the funds inaccessible forever.

The multisig wallet was created precisely to solve this dilemma.

Understanding the Multisig Wallet

A multisig wallet is a type of cryptocurrency wallet that requires multiple digital signatures (private keys) to authorize a transaction. It can be thought of as a bank safe that requires two or more keys turned simultaneously to open – no single key can open the safe alone.

The structure works as follows:

• Setup: Choose a scheme like 2-of-2, 2-of-3, 3-of-5, or 4-of-5
• Signatories: Each participant receives a unique private key
• Approval: The minimum number of keys must sign for the transaction to be executed

For example, in a 3-of-5 wallet, any combination of three out of the five signatories can approve a transaction. John, Alex, and Sam could sign together, or you, Sam, and John – the order doesn’t matter.

How Multisig Really Works

The process begins when a signatory initiates a transaction. This transaction is marked as “pending” until the required number of signatures is reached.

Imagine an executive board with five members needing to approve corporate fund transfers. With a 3-of-5 multisig wallet:

• If only one member signs: transaction pending
• If two members sign: still pending (missing signatures)
• When three members sign: transaction approved and executed

No signatory has “superior power” over others. Signatures can come in any order, providing operational flexibility.

All signatories can view transaction details and receive a unique seed phrase for account recovery. This means that even if you lose one of your private keys, the others remain functional as long as the minimum required to approve transactions is intact.

Single-Key Wallet vs. Multisig: What’s the Difference?

The single-key wallet remains the standard for individual users because it offers convenience. But for organizations managing significant funds – boards of directors, NGOs, governments, religious institutions – the multisig wallet provides unparalleled security.

Practical Advantages of Multisig

Multi-Layer Security

Distributing keys among different people creates security redundancy. In a 2-of-3 setup, if a hacker compromises one key, it becomes useless – two keys are still needed to move funds.

Two-Factor Authentication

Multisig functions like two-factor authentication. Even if someone steals one private key, they cannot do anything without the others. You can keep all keys (spread across different devices) or distribute them among trusted individuals.

Collective Decision-Making

When keys are distributed among multiple signatories, the wallet effectively becomes a voting system. Transactions only go through when a minimum percentage agrees, preventing unilateral actions that could harm the organization.

Escrow Transactions

Multisig enables secure agreements between unknown parties. The buyer sends funds to a 2-of-3 multisig wallet. When the seller delivers the products, both sign to transfer the money. In case of dispute, an impartial third party with access to a key can decide where the money goes.

Disadvantages You Need to Know

Slower Confirmations

Trading security for speed is real. While a single-key transaction takes seconds, a multisig can take hours or days to gather all signatories for approval.

Steep Learning Curve

Operating a multisig wallet requires higher technical knowledge than a simple wallet. Many users need to rely on third parties to learn, which is not always ideal in a decentralized ecosystem.

No Insurance Coverage

The cryptocurrency market is still largely unregulated. Funds in multisig wallets are not insured against loss or theft. You are responsible for safeguarding your funds, even in hot wallets.

Risk of Sophisticated Frauds

Scammers craft clever schemes. One common scam: posing as a seller, offering a “2-of-2 multisig wallet” that is actually a 1-of-2 wallet, where only they have control. The buyer sends funds thinking both must sign, but the seller runs away with everything.

Another risk: sharing your keys with people who later decide to turn against you. This can include friends and family who change their minds.

Conclusion: When to Use Multisig

A multisig wallet creates an additional security layer that drastically reduces the risk of compromise by hackers or human errors. It works exceptionally well for shared control – companies, NGOs, governments, religious organizations, and family groups with large assets.

If you value security and privacy, and especially if you manage funds in a group, a multisig wallet may be the best storage option available, whether as a hot or cold wallet.

The decision to use multisig depends on your actual needs. For small personal amounts, the convenience of a single key may suffice. But when security and reliability are non-negotiable, multisig is the answer.