Unspent Transaction Output (UTXO) is the output of a completed crypto transaction used to begin the next transaction. The UTXO model is the basis of the functioning of many crypto coins such as Bitcoin. The endpoint of a transaction is used to begin the next transaction.
The user should put their digital signature to use a UTXO in a transaction. UTXO expires after it is used for a transaction. This ensures that a UTXO is not used multiple times or is transferred in an unauthorized manner. In common parlance, UTXO acts like a bank cheque that keeps track of the money transfer.
UTXO In The Network’s Perspective
From the network’s perspective, UTXOs are part of the amount a transactor sends to another person. When the UTXO is in the account of a particular user, the network marks it in that person’s name and locks it.
When the user uses it in a transaction, the amount is unlocked by the network and is saved in another person’s name. Thus, from the network’s perspective, the ownership of UTXO changes with each transaction, and it is a dynamic entity with many addresses associated with it.
UTXO In The User’s Perspective
From the user’s perspective, UTXO is similar to the balance that that a person gets in a normal fiat currency transaction. If you want to buy an item that costs $0.5 and you give $1. Here, you will get $0.5 as the balance for the transaction, which you can keep with you and use to buy something later. In the same way, UTXO is an unspent balance crypto coin that can be used at a later stage for transactions.
Advantages And Disadvantages of UTXO
The UTXO model, followed by many major cryptocurrencies, has many inherent advantages and disadvantages.
The advantages of UTXO are given below.
- The data related to the ownership of each cryptocurrency in the UTXO model is traceable. Thus, users can know the origin of each coin and its transaction history in the UTXO model.
- If UTXOs are consolidated, they can be used to pay the transaction fees in the future.
- UTXOs give you more privacy as they are used in association with multiple wallet accounts. The private keys associated with each UTXO keep changing with every transaction. So, it is not easy for fraudsters to get hold of the UTXO coins and conduct hacking attempts.
The disadvantages of UTXO are given below.
- The codes associated with the UTXO are much more difficult to understand and implement.
- The concept is sometimes difficult to understand.
- It is less fungible than many other digital assets.
- As new addresses are added to each coin even while old addresses are retained, UTXOs require more space for storage.
Limitations Of UTXOs
Even though UTXOs have many use cases, these limitations should be taken into consideration when using UTXOs for transactions.
- UTXOs are not useful for making small transactions. This is because the transaction fees would be higher than the value of the UTXO transacted. It is also not always viable for a user to combine different UTXOs to make a single transaction because of the transaction fee.
- The complexity of the UTXO transactions is significant and affects the efficiency and scalability of transactions. UTXO-specific wallets and applications would be needed to facilitate these transactions, which are difficult to create.
- The process of maintaining UTXOs is very resource-intensive. So, it is expensive and time-consuming for a user to maintain the transaction history of a blockchain.
- While UTXOs are good at upholding the privacy of the users, privacy breaches can still happen with the traceability of the transactions. For instance, if a user has to combine several UTXOs in a single transaction and any data breach happens in the context of these transactions, many private keys will become vulnerable.
Also, Read: Things to Know Before Starting Crypto Investment
The Bottom Line
The UTXO model has been in effective use for a long and is used by all major cryptocurrencies such as Bitcoin. It is different from the account balance model used by Ethereum as UTXOs are considered to be more flexible. UTXOs give the user a say in the context of the transaction and the conditions under which they are spent. However, you should keep in mind the limitations and disadvantages of the UTXO model and streamline the transactions accordingly.
