At their core, smart contract wallets are self-executing devices or applications that automatically enforce the terms of the agreement, empowering users with more security than traditional wallets. Such wallets are often considered decentralized applications (DApps) as they are built on a blockchain and enable users to manage their digital assets using smart contract technology.
Umbrella term
Smart contract wallets are a type of dApps running on a blockchain. They enable users to manage their digital assets using self-executing program. These wallets provide users a means to keep crypto assets in self-custody. What’s more, they facilitate functions like bundled transactions, the ability to pay gas fees in a different token, customizable recovery options and more.
The perks of such wallets are as follows:
- Higher security. To prevent asset theft or unauthorized access, smart contract wallets use encryption methods and blockchain technology. The wallet securely stores the user’s private key, making it perplexing for hackers to access the user’s funds.
- Transparency. All info related to transactions and smart contracts lives on the blockchain, which results in transparency. Say, you can look through your transaction history on the blockchain explorer, which reduces the likelihood of fraud;
- Decentralization. Thanks to their decentralized nature, these wallets reduce their susceptibility to censorship and single points of failure.
- Customizable features. Smart contracts empower users with personalized functionality, such as spending limitations, multisignature transactions (Multisig) and programmable rules.
Use cases
A number of different applications of smart contract wallets are known that greatly enhance the capabilities of the Web3 ecosystem. They provide access to a wide range of DeFi services, decentralized identity, asset management, voting systems, among others.
Basically, the integration of smart contract wallets provides direct access to decentralized finance (DeFi) platforms. You can engage in asset lending, borrowing and in many other activities with no traditional financial institutions involved. So, here are a few use cases of smart contract wallets:
- Decentralized identity. Smart contract wallets can play a vital role in decentralized identity systems. By keeping your data inside a smart contract, you have more control over what you can do with it, reducing the possibility of identity theft;
- Secure asset management. Features such as the abovementioned multisig and configurable access controls make smart contract wallets the solution for people and organizations to manage their digital assets out-of-danger. Hence, they can be used for both personal and corporate use, providing a superior level of security;
- Collaborative decision-making. Speaking of organizations in particular, they can use smart contract wallets to ensure that spending decisions are taken collectively. For instance, an organization might use a multisig smart contract wallet for withdrawing cash. The wallet will require several board members’ consent before the processing, making the procedure more accountable.
- Voting systems. Using smart contract wallets can make the voting process much more see-through and streamlined. Each smart contract would reflect one vote, thereby maintaining election integrity and hindering any kind of manipulation.
Smart contract wallets vs. regular wallets
What makes smart contract wallets so distinct from the traditional ones is that they are more full-fledged and multipurpose.
A regular Ethereum wallet enables users to store, manage and interact with their digital assets on the Ethereum blockchain. These might include ETH and other ERC-20 tokens. To allow you to access and manage your funds, each wallet generates a unique public address and a corresponding private key or even seed (recovery) phrase. So, traditional wallets can basic functions such as sending and receiving tokens, as well as tracking transaction history.
A smart contract wallet, on the other hand, is a programmable one that facilitates more complex interactions. It enables you to implement two-factor authentication (2FA) as an extra layer of protection for your assets, to sign transactions via a mobile app, to set monthly spending limits, to generate so-called session keys to play blockchain games without constant transaction approvals, to automate bill payments, and to decentralized wallet recovery. These features make smart contract wallets more versatile and potent tools for managing digital assets.
What about the risks?
There are several things to consider when using smart contract wallets:
- Programming complexity. Building and maintaining smart contract wallets requires a profound level of technical expertise. Even small bugs can lead to sever and unpredictable repercussions;
- Non-reversible transactions. Despite automation being a core feature of smart contract wallets, vulnerabilities in the program could lead to unintentional losses or transfers, which are unalterable.
- Early stage of development. The technology behind smart contract wallets is still evolving. To be able to use smart contract wallets efficiently, one needs to stay up-to-date when it comes to recent developments in this sector.
- Human error. No matter how carefully programmed these wallets are, there is always a human mistake factor that can lead to flaws. Thorough code review and testing are essential steps to mitigate such risks.
Managing these exposures requires not only technical proficiency, but also a rigorous approach to the security and governance of the development and operation of smart contract wallets.
Conclusion
Both developing and using smart contract wallets requires a profound degree of technical competence and caution to avoid any potential pitfalls and programming errors that could lead to unforeseeable outcomes.
Still, these wallets are a powerhouse for automating and managing your digital assets. Their use keeps expanding with the development of blockchain and DeFi solutions.