Have you ever wondered what's happening behind the scenes when you make a Bitcoin transaction?
The answer lies in Bitcoin's underlying database model known as the Unspent Transaction Output (UTXO) scheme.
In this guide, we'll unpack how UTXOs work, why Bitcoin uses this approach, and how it differs from account-based models common on platforms like Ethereum.
What is the UTXO Model?
Bitcoin works differently from traditional money in banking systems. There are no fractional dollar values or account balances in Bitcoin - only unspent transaction outputs (UTXOs).
The bitcoin you see in your wallet that is available for you to spend and trade — is is actually just UTXOs.
UTXOs are the traceable units of ownership on the blockchain.
When you go to make a BTC payment, your wallet combines enough of your available UTXOs to meet the transaction amount. Those UTXOs become permanently spent and new UTXOs are generated containing any leftover change, which gets credited back to your wallet.
This UTXO architecture is what allows Bitcoin to function without centralized accounts. Your wallet provides proof-of-ownership signatures to unlock UTXOs on the blockchain and the network verifies their validity and facilitates the transfer.
Real-World Example of How UTXOs Work
Say Ariel has 0.9 BTC stored in her wallet - represented on the blockchain as two separate UTXOs worth 0.8 BTC and 0.1 BTC, respectively.
Now Ariel needs to pay Tom 0.6 BTC. Her wallet software locates the 0.8 BTC UTXO, uses it as an "input," and creates a transaction.
This transaction unlocks the 0.8 BTC and splits it into two new UTXOs: 0.6 BTC sent to Tom and 0.2 BTC back to Ariel's wallet address as change.
The original 0.8 BTC is now permanently spent and removed from Ariel's balance. However, two new UTXOs were created following the transaction (0.6 BTC and 0.2 BTC), which are now available for future spending.
Conceptually, it is easier to think of UTXOs as a type of check for a certain amount allocated to your wallet
To make payments, you need to pull enough checks to meet the amount. If a check adds up to more than the transaction amount, new checks are created to “split” it, and the original check becomes void.
UTXOs: A Bird's Eye Stakeholder View
For blockchain networks and developers, UTXOs represent a protocol for distributing the underlying data fragments that cryptocurrencies are composed of.
Transactions don't spend single units - multiple small currency chunks stored across nodes combine to fulfill transfers.
Upon initiating a wallet transaction, the network identifies relevant UTXOs using your wallet address, unlocks them, and then reassigns ownership to the recipient before re-locking.
Recipients can later spend acquired UTXOs using the same unlocking/input mechanism, allowing value transfer.
As an everyday user, this UTXO scheme happens seamlessly behind the scenes. You simply see amounts deducted from your balance when spending, and any leftover change deposited back into your wallet - much like breaking a dollar and receiving coins in return.
So while complex processes enable movement of value on the backend, spenders primarily perceive clean subtractions and additions to their wallet balance courtesy of user-friendly applications.
Benefits and Drawbacks of UTXOs
UTXOs allow all units of cryptocurrency to be publicly tracked on-chain while still preserving individual user privacy through anonymous addresses. This permits transparency without identification.
The model allows peer-to-peer, trustless exchange without intermediaries - upholding the principles of self-custody and censorship-resistance that make Bitcoin's design revolutionary.
However, the micro-sized coin fragments can make certain tiny transactions impractical. Spending less valuable UTXOs may incur more fees than the actual transfer amount. Paying a $5 fee for a $2 coffee is where the model breaks down.
How Does Bitcoin’s UTXO Model Compare to Other Blockchains?
Instead of UTXOs, Ethereum and many other blockchain systems employ an account-based model. These systems manage value through ledgers. This approach makes it easy for more intricate operations like the execution of smart contracts.
However, this newfound versatility changes the vulnerability model. For instance, should the ledger be manipulated, value can be created or destroyed in ways that the UTXO model cannot.
The primary distinction between UTXOs and the account-based model lies in their objectives. Bitcoin's UTXO model aims to emulate the exchange of physical cash, offering a secure and straightforward method to transfer value.
Ethereum and other account-based systems cater to a range of applications to deliver increased functionality, including the ability to create and engage with smart contracts.
Nonetheless, when working with smart contracts, users must recognize that their security is reliant on the smart contract's security.
When users interact with a smart contract, they are susceptible to potential exploits. This underscores the trade-offs between simplicity and security (Bitcoin's UTXOs) and functionality and complexity (Ethereum's account-based model).
DeFiChain's Hybrid Architecture: Merging Bitcoin's UTXO and Ethereum's Account Models
DeFiChain's unique hybrid architecture brings together the best of both worlds: Bitcoin's Unspent Transaction Output (UTXO) model and Ethereum's account model.
Initially forked from Bitcoin’s codebase, DeFiChain leverages its parent blockchain’s robustness and proven track record to maintain high levels of security. At the same time, DeFiChain deviates from being a traditional sidechain, serving as a unique, standalone blockchain that has developed its own distinct set of features and capabilities.
DeFiChain's most remarkable feature is its hybrid architecture, which marries the UTXO model's security and simplicity with the flexibility and functionality of Ethereum's account model to manage tokens, pool pairs, and vaults.
While the UTXO model ensures immutability and transparency in transaction history to prevent double-spending attacks, Ethereum's account model enables complex transactions, smart contracts, and seamless interactions with decentralized applications (dApps).
By integrating the strengths of both Bitcoin and Ethereum, DeFiChain offers a secure and versatile platform for DeFi applications, demonstrating its dedication to revolutionizing the DeFi ecosystem.
DeFi Transactions with UTXOs and Accounts
A key challenge for DeFiChain is to facilitate DeFi transactions while linking UTXOs with account-based transactions. To address this issue, DeFiChain implemented Auto Auth, a process that automatically manages UTXOs and associates them with the relevant account-based transactions.
With Auto Auth, when a user wants to initiate a DeFi transaction, the system checks their wallet for a suitable UTXO input. If the required input is not available, the system creates an Auto Auth transaction to redistribute the user's UTXOs and send the required amount to the desired address. This process may require two transactions: one to redistribute the UTXOs and another to execute the actual DeFi transaction.
This innovative solution enables DeFiChain to provide the security and transparency of the UTXO model while also facilitating complex account-based transactions typically associated with Ethereum's account model. In turn, users enjoy a seamless and efficient DeFi experience on the DeFiChain platform.
Experience Dual-Chain Freedom on DeFiChain
We've only scratched the surface of the innovations enabled by DeFiChain's novel dual-chain architecture. Users can access the best of both worlds - the security of Bitcoin-like UTXO with the expansive potential of Ethereum-powered accounts.
You can directly test this versatile design yourself today. Download the DeFiChain Light Wallet on the App Store and toggle between the UTXO and the MetaChain (EVM) layer through a single platform.
Whether you're swapping assets, earning attractive yields or interacting with cutting-edge dApps, DeFiChain unlocks unlimited possibilities from DeFi to anything you can code using smart contracts.
Don't just take our word for it - experience these two worlds yourself on DeFiChain today!