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On-chain transaction fees will be rising with the increasing popularity of Bitcoin. This makes Coin Control aka UTXO management a critical tool to prevent the worst case, that your UTXOs are smaller than the fee to pay for spending them, basically wiping out your bitcoin funds.
Your Bitcoin wallet manages thousands of Bitcoin addresses for you. Every transaction you conduct creates a new Unspent Transaction Output (UTXO) that includes an amount of bitcoin you own. By carefully selecting which UTXOs are being used in a new transaction you can save on fees and influence your privacy.
Most wallets do not offer Coin Control tools for the users, instead they select the UTXOs automatically leaving you with no possibility to manage your UTXOs effectively. BlueWallet, Sparrow Wallet, Trezor Suite and BitBox02 allow you to take control and do it manually (these are the ones I have used so far).
Imagine you have a Bitcoin wallet with several chunks of bitcoin, known as UTXOs (Unspent Transaction Outputs), stored at different addresses. These chunks can vary in size - for instance, you might have the following UTXOs:
Now, imagine you want to send 50,000 satoshis to a friend. You could either combine the satoshis from address 1, 2, and 3 or you could send the full amount that’s sitting at address 4. When you make a transaction without manual UTXO management, your wallet decides for you how to combine these UTXOs and it might select 1, 2, and 3, which increases the fees you pay, as fees are calculated based on the data size of the transaction. Meaning the more UTXOs you combine, the higher the transaction fee.
Effective UTXO management means selecting the right UTXOs to minimize your transaction fees. In the example that means choosing address number 4 for the transaction, because that requires only one UTXO to send the full amount. More importantly the amounts on your UTXOs should be higher than the average mining fee otherwise spending your bitcoin becomes more expensive than the amount you want to send.
Tools like BlueWallet and Sparrow Wallet allow you to manually select UTXOs for a transaction, helping you save on costs.
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Managing your UTXOs isn’t just about saving on fees; it’s also crucial for privacy. Having many small UTXOs can enhance your privacy because it’s harder for someone to determine your total bitcoin holdings. However, this approach can lead to higher fees when you want to send a large amount. Conversely, consolidating your bitcoin into fewer, larger UTXOs can reduce fees but may compromise your privacy.
UTXO management is an ongoing task, not a one-time fix. Regularly optimizing your UTXOs is important for anyone using bitcoin, whether you’re a beginner or a more advanced Bitcoiner.
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