When is Bitcoin Considered “Lost”?
Bitcoin is considered lost when it can no longer be spent by anyone. Bitcoin is controlled by private keys, much like physical keys control money in a safe or vault. Private keys create signatures, which are required to spend bitcoin. Without the private key, no signature can be created, and all funds linked to that key are unusable. Accordingly, the simplest way to avoid losing bitcoin is to safeguard private keys.
How Much Of Bitcoin’s Existing Supply Is Lost?
There is no way to know exactly how many bitcoin are lost forever. In Bitcoin’s early days, people did not realize its future value, resulting in many unfortunate losses, thefts, and mistaken transactions. Reports claim that anywhere between 3-4 million bitcoin will never be recovered, lowering the hard cap from 21 million to 17-18 million.
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How Is Bitcoin Lost?
The Bitcoin blockchain is an immutable ledger, which means that all bitcoin transactions are final, and there is seldom recourse for a mistaken transaction. Humans are the sole cause of lost bitcoin, not Bitcoin or the blockchain technology.
➤ Learn more about choosing a Bitcoin wallet
Millions of bitcoin have not moved addresses for a significant period of time, and the market is uncertain whether they will re-enter circulation. However, this does not automatically mean they are lost.
One famous example of unmoved bitcoin is the large cache of bitcoin held by Satoshi Nakamoto. No one is certain what Satoshi did with the private keys to his bitcoin, or whether the keys still exist, but the bitcoin has not moved since their creation.
— Satoshi Nakamoto explaining how lost coins affect the network positively in 2010.
By removing those coins from circulation, Satoshi reduced the total bitcoin supply by more than 1 million. When bitcoin remains unmoved for a long period of time, the market responds as though the bitcoin has been removed from circulation and adjusts the price based on the lower supply.
Bitcoin is a unique asset because it can be easily self-custodied without a trusted third party. However, self-custody places the responsibility of security and the risk of loss on the user; if a user takes full self-custody of their bitcoin and loses the private keys, the bitcoin is irreversibly lost.
There are many available methods to self-custody bitcoin, but private keys held in self-custody on a personal hard-drive or other external storage device can accidentally be discarded or overwritten by new files; James Howells is infamous for having accidentally thrown out a hard-drive that would be worth nearly $300 million today.
A helpful way to keep a bitcoin wallet safe is to use a mnemonic phrase as a backup. A mnemonic phrase allows a wallet to be recreated even if the device used to access the wallet is lost or broken.
Third-party Security Risks
The Bitcoin community uses the generally accepted notion, “Not your keys, not your coins,” to illustrate the critical importance of private key control. Hackers have targeted exchanges on numerous occasions to obtain private keys and self-storage is prone to human error.
Custodians are typically institutions with experience and expertise in custody, making them more secure than exchanges and more reliable than self-storage.
➤ Learn more about bitcoin custody.
Bitcoin transactions are irreversible once they have been added to the blockchain.
Therefore, if a Bitcoin transaction sends bitcoin to an incorrect address, they are likely impossible to recover. The only way to recover bitcoin sent to an incorrect address is for the owner of that address to refund the mistaken transaction.
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Luckily, this type of mistake is exceedingly rare, because many wallets check whether an address is valid before allowing a user to send bitcoin. The best way to avoid losing bitcoin through a mistaken transaction is to verify the address of a counterparty before transacting on-chain.
Inadequate Estate Planning
Bitcoin can be lost when a bitcoin owner passes away without sharing their private key or ensuring their private key can be recovered by an intended recipient.
In some cases, the deceased never revealed that they owned bitcoin during their lifetime, and their beneficiaries may be unaware there is bitcoin to be recovered. Similarly, many estate planning lawyers are unfamiliar with Bitcoin and do not know how to handle their deceased clients’ private keys with the appropriate level of care. If that happens, the bitcoin can be lost forever.
➤ Learn more about bitcoin estate planning.
How Can I Recover Lost Bitcoin?
There is no way to recover bitcoin that is truly lost. Some mistaken transactions have been refunded, but only when the counterparty personally knows the sender, which is infrequent. If a private key is lost, then bitcoin belonging to that key is unspendable.
What Does Lost Bitcoin Mean For The Rest Of The Bitcoin Network?
Lost bitcoin increases the value of the remaining bitcoin on the network. Bitcoin is infinitely divisible, so lost bitcoin does not harm the network as a whole. Furthermore, because Bitcoin derives value from its absolutely finite supply, every lost bitcoin will slightly increase the value of remaining bitcoin in the network.
How Can I Avoid Losing My Bitcoin?
Today, many protocols exist to safeguard private keys and passwords. Individual users who self-custody bitcoin are prone to human error and other unique threats. You can reduce the chance of losing your bitcoin by adhering to the latest standards in information security and data storage.
➤ Learn more about security measures for bitcoin storage.
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Notice: River Financial does not provide investment, financial, tax, or legal advice. The information provided is general and illustrative in nature and therefore is not intended to provide, and should not be relied on for, tax advice. We encourage you to consult the appropriate tax professional to understand your personal tax circumstances.