Bitcoin is a kind of cryptocurrency founded in 2009 by the presumed pseudonymous person or group called Satoshi Nakamoto. Bitcoin is the most valuable and popular cryptocurrency because it was the first decentralised cryptocurrency to be launched in the market. Like we have many centralised currencies such as Dollars, Indian Rupees, Pounds, Euros, etc., Bitcoin cryptocurrency likewise is one of the different kinds of cryptocurrencies in the market pool. Other cryptocurrencies are Dogecoin, Ethereum, Ripple, Binance Coin, etc.It is a digitised form of currency that involves a complete ecosystem running in the background to make it function in real-time. It runs on a decentralised network and uses blockchain technology at its core. Cryptocurrencies are here to stay and therefore it is prudent to get an idea of how cryptocurrencies work.
What is Cryptocurrency?
Crypto means secret, and currency is a system of money or a medium by which we buy goods and services.
Why was Bitcoin, or rather a cryptocurrency, invented?
Why was cryptocurrency needed when every nation already had a full-fledged developed currency system? The financial crisis in the year 2008 led to the launch of the Bitcoin cryptocurrency in 2009. People were frustrated with the banks and the government’s control over their hard-earned money. In contrast, they wanted a currency that was not controlled by any bank, authority, or agency. In the regular currency system, the government owns the price of commodities, can push inflation anytime, and increase or decrease the money flow in the market. That is why cryptocurrency was born. Hence, it became a decentralised form of currency where no organisation or government controls the currency. No central agency has information about how much cryptocurrency a particular person holds.
Another advantage of cryptocurrency is that it empowers you to transact with anybody, sitting anywhere in the world with minimal restrictions.
What is Blockchain Technology?
Blockchain technology can be considered the backbone of the cryptocurrency world. As the name suggests, it is a chain of blocks. These blocks record all the transactions happening on the peer-to-peer network. When one block gets full, another joins the previous block and forms a blockchain. Hence all the transactions are weaved or connected in a chronological chain. In simple terms, we can call it a digital ledger that holds the record of every transaction over a network. Or you can also say it is an advanced and digitised accounting system.
What is a Peer-to-Peer Network?
The public ledger or the blockchain that records transactions is maintained over a network of computers. Each computer that supports the blockchain is called a node. This network is called a peer-to-peer network or person-to-person network. And this transaction list is public over this network. This means anyone can virtually or remotely access this information and verify the sender and receiver details. The blockchain uses cryptography to avoid altering or tampering with data. So, the information stored is confirmed by a math puzzle called cryptography and not by people sitting in some bank.
What does a Block Look Like?
Whenever a block is created for the blockchain, it generates a block hash which is a 256-bit number that contains the following information in coded form:
- Block version: client’s version of the Bitcoin
- Previous block’s hash
- Coinbase transaction or the first transaction that issues the Bitcoin reward to the miner.
- Block height number or the length of the block.
- Merkelroot, or the 256-bit code, contains all the information about every previous block.
- Timestamp of the block
- Network target
- Nonce or a randomly created 32-bit number
The reason why a block cannot be altered is that each block contains information about its previous block. Each block is created and validated by a process called mining.
What are Bitcoin Miners and Mining?
The people responsible for maintaining and validating the transactions in the public ledger are called miners. And this process is termed cryptocurrency mining or just mining. This is not done manually; it is automatic, or system generated. But it requires specialised software and computers. The time and money involved in mining lead to rewarding the miners in the same cryptocurrency.
Now that we know all the basics of this digitised currency, we can understand cryptocurrency as a private digital currency. All the transactions involving this currency are noted in a public ledger using blockchain technology. It leads to a doubt that there might be privacy problems if all the transactions are in an open space. So, the answer is that every transaction is encrypted using cryptographic algorithms.
Keys & Wallets
The Bitcoin is accessed via the key and wallet. A Bitcoin is nothing but data about your ownership and this ownership is transferred when transactions are performed. Whenever a Bitcoin is transmitted through a transaction, the new owner gets a number, which is a private key. And your wallet has a public key to send a Bitcoin to you.
A wallet is a software used to check your balance and perform transactions using Bitcoin, just like your net banking software.
How is the Price of a Bitcoin Decided?
The price of a cryptocurrency depends on the demand and supply model. The number of cryptocurrencies floating in the market simultaneously is also fixed. So, when the demand is enormous, the price increases, and when the demand falls, the price also goes down. For example, the maximum number of Bitcoins in the market can only be 21 million, which is expected to exhaust by 2040.
Now that we are well-versed with the basics of Bitcoin and the cryptocurrency market. Let us understand how to use Bitcoin. The first step in Bitcoin trading or usage is purchasing a Bitcoin wallet.
Buying a Bitcoin Wallet
Traditionally, you used to store Bitcoins in a wallet. But nowadays, a wallet serves as a tool to keep your private key that is needed to access Bitcoin on the blockchain. There are two kinds of wallets, and you can choose either of the two:
- Hot wallet
It only exists when you are connected to the internet. The advantage is that you can access your crypto with any device, including your phone. However, the disadvantage is that this wallet is prone to hacking since it is online. Some examples are exodus, electrum, and mycelium.
- Cold Wallets
Here you store the keys offline, usually in a separate hardware piece. These are safer because they aren’t online. But then you have the risk of losing the hardware leading to no access to your Bitcoins as well. Some examples are Ledger Nano S, Ledger Nano X, and Trezor Model T.
How Can You Own Bitcoin?
Purchasing is the easiest way to get a Bitcoin. You can do so using a cryptocurrency exchange, they are trading platforms designed to buy and sell cryptocurrency. Since Bitcoin is the largest and top cryptocurrency, you can easily spot it on exchanges. Some popular exchanges are Kraken, Coinbase, Gemini and Binance.
Well, buying a Bitcoin can be the easiest way to have one. But there are some other ways to get a Bitcoin as well:
- Someone sends you a Bitcoin.
- You earn it from mining.
- Accepting it in exchange for providing goods and services
Note: Do check which exchanges are allowed in your country.
How Can You Spend Bitcoin?
Bitcoin hasn’t become a currency you can use to buy goods or services. But still, there are plenty of options where you can spend a Bitcoin cryptocurrency.
1. Debit and Gift Cards
Various companies offer you to take cryptocurrency debit cards. You can spend your Bitcoins using these cards just like how you use your regular debit cards. You can use these cards to pay for goods and services. You can even use them to withdraw cash from an ATM. Whenever you use these cards, the cryptocurrency is automatically converted to dollars. Also, many online retailers let you buy through cryptocurrency debit cards.
Another fantastic way to spend your Bitcoin is by buying a gift card. Through websites like Gyft and eGifter, you can convert your Bitcoin into gift cards. Then you can use these cards at places that don’t accept Bitcoins.
2. Shopping using Bitcoins
Now we know that we can use debit and gift cards to do shopping using Bitcoins. But there are other ways too. For online merchants that do not accept Bitcoins, you can use a magical app called FLEXA. It is a payment network that accepts cryptocurrencies. When you use FLEXA in combination with its mobile wallet called SPEDN, you’ll be able to pay in any supported currency. The crypto gets converted at the time of purchase. But interestingly, you can only spend $750 using FLEXA per week. Major retailers like Lowes, Nordstrom, and Petco accept FLEXA.
Similarly, PayPal has started to use a similar feature to FLEXA. For Bitcoin to dollar conversion on PayPal, you will have to use the W-9 on file with PayPal.
Did you know many nonprofit organisations have started accepting donations in Bitcoins? And there are advantages to this way too. You get a rebate in tax. And secondly, since the organisation doesn’t have to pay capital gains tax, it receives the entire donation amount.
Note: The price of Bitcoin frequently fluctuates throughout the day as per the demand and supply in the market, and it is so frequent that it changes every few seconds. So, it is quite possible that when you add something to your cart, the price will drop by the time of billing, leaving you with an insufficient balance in your account.
Taxation on Bitcoin
Bitcoin is a property instead of a currency. So, you must pay capital gains tax when you sell it. The amount to be paid is directly proportional to the duration of holding the Bitcoin. If you sell the Bitcoin within a year of holding, your profit is taxed as ordinary income. But, if you keep it for more than a year, your taxation amount depends on your income, like 0%, 15%, or 20%.
Investing in Bitcoin is similar to investing in stocks. But the cryptocurrency market is quite volatile. There are chances that you can earn pretty good returns, but the chances of losing it all stand true as well. We would suggest you consult a financial advisor before making any investments.
What are the four types of cryptocurrencies?
There are four main types of cryptocurrencies. They are payment, utility, stablecoins, and security. Then there are NFTs, Defi tokens, and asset-backed tokens. Out of all these, the most common ones are payment and utility tokens.
Should I invest in cryptocurrency?
The cryptocurrency market can be an excellent investment option. But you need to understand that it is hazardous too. It is because the prices climb and drop instantaneously. There could be a possibility that you might lose your entire invested amount, or you could gain manifold. The risk is similar to gambling. 2022 has seen a steep fall in crypto prices.