What Is Bitcoin? Definition, Basics & How to Use
Bitcoin was the first cryptocurrency, a decentralized form of digital cash that eliminates the need for traditional intermediaries like banks and governments. Bitcoin can be used as a currency or an investment.
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Bitcoin is a form of digital currency that uses blockchain technology to support transactions between users on a decentralized network.
New Bitcoins are created as part of the mining process, as a reward to people whose computer systems help validate transactions.
Buying Bitcoin exposes you to a volatile asset class. There are many pros and cons to consider about whether it's right for your portfolio.
If you decide to buy Bitcoin, you’ll need a place to store it — like a hot or cold wallet.
Bitcoin (BTC) definition
Bitcoin is a form of digital currency that aims to eliminate the need for central authorities such as banks or governments. Instead, Bitcoin uses blockchain technology to support peer-to-peer transactions between users on a decentralized network.
Transactions are authenticated through Bitcoin’s proof-of-work consensus mechanism, which rewards cryptocurrency miners for validating transactions.
Launched in 2009 by a mysterious developer known as Satoshi Nakamoto, Bitcoin (BTC) was the first, and remains the most valuable, entrant in the emerging class of assets known as cryptocurrencies.
Bitcoin's price topped $100,000 for the first time on Dec. 4, 2024, a long-awaited milestone.
How does Bitcoin work?
Each Bitcoin is a digital asset that can be stored at a cryptocurrency exchange or in a digital wallet. Each individual coin represents the value of Bitcoin’s current price, but you can also own partial shares of each coin. The smallest denomination of each Bitcoin is called a Satoshi, sharing its name with Bitcoin’s creator. Each Satoshi is equivalent to a hundred millionth of one Bitcoin, so owning fractional shares of Bitcoin is quite common.
Blockchain: Bitcoin is powered by open-source code known as blockchain, which creates a shared public history of transactions organized into "blocks" that are "chained" together to prevent tampering. This technology creates a permanent record of each transaction, and it provides a way for every Bitcoin user to operate with the same understanding of who owns what.
Private and public keys: A Bitcoin wallet contains a public key and a private key, which work together to allow the owner to initiate and digitally sign transactions. This unlocks the central function of Bitcoin — securely transferring ownership from one user to another.
Bitcoin mining: Users on the Bitcoin network verify transactions through a process known as mining, which is designed to confirm that new transactions are consistent with other transactions that have been completed in the past. This ensures that you can’t spend a Bitcoin you don’t have, or that you have previously spent.
» More: How does Bitcoin mining work?
How does Bitcoin make money?
New Bitcoins are created as part of the Bitcoin mining process, in which they are offered as a lucrative reward to people who operate computer systems that help to validate transactions. Bitcoin miners — also known as "nodes" — are the owners of high speed computers which independently confirm each transaction, and add a completed "block" of transactions to the ever-growing "chain." The resulting blockchain is a complete, public and permanent record of every Bitcoin transaction.
Miners are then paid in Bitcoin for their efforts, which incentivizes the decentralized network to independently verify each transaction. This independent network of miners also decreases the chance for fraud or false information to be recorded, as the majority of miners need to confirm the authenticity of each block of data before it's added to the blockchain in a process known as proof-of-work.
You decide: Is Bitcoin a good investment?
Buying cryptocurrency exposes you to a volatile asset class. A common rule of thumb is to devote only a small portion of a diversified portfolio to risky investments such as Bitcoin or individual stocks.
The Securities and Exchange Commission approved a spot Bitcoin ETF in early 2024. Learn what that means for Bitcoin and other cryptocurrencies.
Whether or not Bitcoin is a good investment for you depends on your individual circumstances, but here are a few pros and cons of Bitcoin to consider.
Bitcoin pros
Privacy.
Decentralization. After the financial crisis and the Great Recession, some investors are eager to embrace an alternative, decentralized currency — one that is essentially outside the control of regular banks, governing authorities or other third parties.
Growth potential. Some investors who buy and hold the currency are betting that once Bitcoin matures, greater trust and more widespread use will follow, and therefore Bitcoin’s value will grow.
» Learn how to invest in Bitcoin
Bitcoin cons
Price volatility. While Bitcoin's value has risen dramatically over the years, buyers' fortunes have varied widely depending on the timing of their investment.
Hacking concerns. While backers say the blockchain technology behind Bitcoin is even more secure than traditional electronic money transfers, there have been a number of high-profile hacks.
Not protected by SIPC. The Securities Investor Protection Corporation insures investors up to $500,000 if a brokerage fails or funds are stolen, but that insurance doesn’t cover cryptocurrency.
Storing your Bitcoins: Hot wallets vs. cold wallets
If you decide to buy Bitcoin, you’ll need a place to store it. Bitcoins can be stored in two kinds of digital wallets:
Hot wallet: You can often store cryptocurrency on exchanges where it is sold. Other providers offer standalone online storage. Such solutions provide access through a computer browser, desktop or smartphone app.
Cold wallet: An encrypted portable device much like a thumb drive that allows you to download and carry your Bitcoins.
Basically, a hot wallet is connected to the internet; a cold wallet is not. But you need a hot wallet to download Bitcoins into a portable cold wallet.
» Learn more: What's the best Bitcoin wallet for you?
How is Bitcoin taxed?
Like other cryptocurrencies, sales of Bitcoin are subject to short-term capital gains tax rates if the Bitcoin was held for a year or less, or long-term capital gains tax rates if the Bitcoin was held for more than a year.
» Dive deeper into crypto taxes.
Myths about Bitcoin
Bitcoin's hacker-culture origins and price volatility have brought it a significant amount of media attention, which has given rise to a number of common misconceptions about it. Here are a few:
Bitcoin payments are only used for illegal activity. According to BitPay, there are dozens of (legitimate) companies that accept Bitcoin payments directly, and thousands that allow shoppers to purchase gift cards with Bitcoin.
Bitcoin transactions are untraceable. Bitcoin transactions are recorded in a public, online ledger (a blockchain) that everyone can see and no one can edit. It is true that a Bitcoin user can transact anonymously if their identity is not tied to their Bitcoin wallet, but many if not most of the major exchanges do collect and store user information.
Bitcoin Cash is a form of Bitcoin. Bitcoin Cash (BCH) is actually a separate cryptocurrency which "forked" itself from Bitcoin in 2017. Check out our article on Bitcoin vs. Bitcoin Cash to learn more.
Investing in Bitcoin is a hedge against stock market downturns. Over the last five years, the price of Bitcoin has often moved in the same direction as stock market indexes such as the S&P 500 and Nasdaq composite, making Bitcoin questionable as an investment alternative to stocks.
Bitcoin payments are free and instantaneous. Due to the time- and energy-intensive nature of Bitcoin mining, transactions can take hours to process and may cost several dollars per payment.
The author and the editor owned Bitcoin at the time of publication.