Bitcoin is making progress towards mainstream adoption, and aside from many online retailers accepting it, there were rumors that even Amazon might start accepting it as payment sometime soon. But although it does nearly all the same things as conventional currency, there are some fundamental differences in how Bitcoin transactions work. If you are planning on investing in Bitcoin or just using it to buy or sell things, understanding the basics of how Bitcoin transactions work is useful.
Bitcoin transactions revolve around 2 essential concepts: addresses and private keys. Addresses are public and their balances are recorded and visible on the blockchain for everyone to see, while the owner of the address keeps their private key secret so that only they can spend the balance in the address.
It is worth mentioning here that an address does not actually contain any Bitcoin itself merely the record of balance transactions to and from that address, and via the records of transactions, you can trace back to the block where the original Bitcoin was mined. The nature of the Bitcoin blockchain is that every transaction has been recorded since the beginning.
Of course, Bitcoins are now worth a few thousand dollars each so they don’t need to be sent in their entirety, they are divisible and can be split for smaller transactions. In fact, micropayments were one of the earliest novel use cases designed for Bitcoin.
The components of a Bitcoin transaction
The basic concepts involved in these transactions are inputs, amounts, outputs, addresses and private keys. The input is the original source of the funds that the sender has (so if I’m sending funds to you, the input is where I actually got them from). The amount is the sum to be sent, and the output is the address to send them to. As mentioned, the private key should only be known to the owner of the Bitcoin – while wallet balances are freely visible there is no way to spend that balance without the private key.
When a transaction is sent it goes through the Bitcoin network to the recipient, and this transaction must be verified by miners before the recipient can be sure the transaction is valid. This verification is by confirmations that ensure the amount has not been double-spent i.e.that it has been used in two transactions at the same time.
This confirmation process normally takes around 10 minutes which is the roughly the amount of time it takes to mine a new block. Transactions should contain a fee for the miners, the higher a fee is set, the faster the transaction will get confirmations.
Easier than it looks
This process might seem like it has a lot of moving parts, but in practice, it is fairly straightforward. All you need to be aware of is that you need to keep your private key safe, make sure to include an appropriate miner’s fee, leave enough in the address to cover this fee and allow for enough time for the transaction to process. Keep this in mind and you’ve got the basics covered.
If you have a question about specific wallets or transactions feel free to ask in the comments below.