In this article, we will answer in simple language what Bitcoin transaction fees.
Unlike traditional payment networks (Visa, Discover), the Bitcoin network depends on decentralized private miners (powerful computers) to process payments. People spend a lot of money to build, maintain, and operate their powerful computers. A Bitcoin payment will be successful only when a miner processes it and adds it to the public Bitcoin blockchain. So, a sender has to pay a small amount in Bitcoin to the miners. It is known as the Bitcoin transaction fee.
Let’s deep dive into the Bitcoin transaction fee.
If we go to a store and purchase something and pay in cash, this “money exchange” has no transaction fee. For example, if we buy coffee that costs $1 and we give the store clerk a 5 dollar bill, the store clerk will return us $4.
However, if we decide to pay using our credit card or bank card, even though we will pay exactly $1, the store will not receive $1. In this case, our money will go to the store through a payment network. It could be VISA, Master Card, Amex, or Discover. These networks charge a fee to process these transactions. These fees are traditionally a fixed percentage of the total transaction amount. Generally, it is between 0.3% to 3%, depending on the network.
Store and business owners pay these transaction fees on behalf of the customers. Big retail stores such as Walmart, Amazon, Target, etc., have special agreements with the networks (Visa, Mastercard) to lower the fee. For example, a small gas station may pay a 2.5% transaction fee, but big stores get some discount from the networks.
In some cases, the customers have to pay the transaction cost. For example, if you pay your property tax online, most of the time, you have to pay an extra 3.5% on top of your property tax. It’s the payment transaction fee.
For Bitcoin or other cryptocurrencies, there is no centralized business organization that processes Bitcoin transactions. Instead, thousands of individual people and small companies with powerful computers help process these transactions. These computers are known as miners. People spend their own money, resources, and electricity to keep Bitcoin mining operations active. In short, Bitcoin mining is a record-keeping service.
In traditional payment systems, the payment networks such as Visa or Mastercard decide the amount of transaction fee. However, in the case of Bitcoin, the sender chooses the transaction fee.
In the case of Bitcoin, the transaction must be processed by a miner and added to a publicly available Bitcoin block ledger. When it is processed and added to a block by a miner, the transaction is successful.
So, why would a miner process your Bitcoin transaction? There are two incentives for doing so.
- The transaction fee a sender agrees to pay.
- The compensation for adding a successful block to the Bitcoin blockchain. As of writing this article, a miner gets 6.25 Bitcoin as payment from the network for successfully adding a block.
Suppose I buy something that costs 0.000100 Bitcoin. We know that the transaction fee is optional. So, if we decide not to pay the transaction fee, still someone (miner) in the Bitcoin network may process this payment because of the reward for adding a block to the Bitcoin blockchain.
Alternatively, as we are not paying anything for the miners as a transaction fee, miners may ignore to process our transaction. In this case, your transaction may fail. By default, Bitcoin timeout is 14 days. For example, if you send someone some Bitcoin, but you didn’t include a transaction fee or included a low fee, miners may ignore it to process your transaction. Thus, the receiver would not get any Bitcoin. The low fee is another reason why Bitcoin transactions may take a long time.
Bitcoin sender sets the transaction fee. As a result, the average transaction fee varies a lot. Ycharts.com tracks this, and you can view it here.
Bitcoin has a hard cap on the number of Bitcoin that can be mined. As time passes, mining becomes more difficult, and the reward for adding blocks to the Bitcoin blockchain wanes; Miner’s primary source of profit would come from the Bitcoin transaction fee.
Therefore, as Bitcoin gets more exposure, more people are using Bitcoin. As a result, the network is getting busier. Therefore, if you want your transaction to be processed, you have to pay higher and higher transaction fees.
This happened during the Bitcoin craze in December 2018. At the time, the average transaction fee reached $55. Since October 2020, the Bitcoin average transaction fee is steadily increasing again.
You can find out all the statistics such as circulation count, blockchain size, recommended fee, transaction per second, etc., of Bitcoin here.
Criticism of Bitcoin:
As we can see, over the years, the Bitcoin average transaction fee has increased steadily. Now, think about 2030 or 2040, when more people learn about Bitcoin and start using it. As the network becomes congested, the fee would also rise dramatically.
Therefore, will Bitcoin be practical in the future if the transaction amount is low but the fee is high?