First of all: UTXO management is particularly crucial if you want to regularly save small amounts in Bitcoin. But first, let's find out what a UTXO actually is.
UTXO stands for “Unspent Transaction Output.” In short, UTXOs represent the individual incoming transactions that you have in your Bitcoin wallet. Each time you receive Bitcoin, a UTXO is created in your wallet. These UTXOs are used when you send bitcoins. Read more about this in our blink”How does a Bitcoin transaction work?”
A Bitcoin savings plan, which includes regular purchases of small amounts, leads to the creation of many small UTXOs. This can be a problem if you want to spend these amounts later, especially in times of high network fees. Each UTXO requires space in the blockchain transaction, and more data means higher fees.
It is important to understand that the network fee charged for the transaction does not depend directly on the euro amounts or the value of the individual UTXOs. Instead, the fee is calculated based on the amount of data that must be written to the blockchain. This means that the total cost of a transaction with many small UTXOs may be higher, even if the total value is relatively low, as a larger amount of data must be processed and integrated into the blockchain.
Without effective UTXO management, transaction costs can rise unexpectedly, especially during periods of high fees. When many small UTXOs have to be grouped together for a transaction, the fees skyrocket.
The solution lies in consolidating your UTXOs. That means you use phases with lower network fees to convert your many small UTXOs into a few larger ones. This can be done by sending the entire small amounts to your own address. The result is a reduction in the number of UTXOs and thus a reduction in future transaction fees. You can find an insight into the current network fees at mempool.space and some explanations about it in this blog post.
You have an ongoing savings plan every 2 weeks with 21 EUR. 52 UTXOs. In this example, the mining fee is 300sats/vb. You send the total amount.
Size for a transaction with 52 UTXOs:
Inputs: 52 UTXos × 148 bytes/UTXO = 7696 bytes
Outputs: Let's assume that there are 2 outputs (a recipient and return money), i.e. 2 × 34 bytes = 68 bytes
Base overhead: 10 bytes
Total size: 7696 bytes + 68 bytes + 10 bytes = 7774 bytes
Now let's determine the size of a transaction with just one UTXO:
Inputs: 1 UTXO × 148 bytes/UTXO = 148 bytes
Outputs: 2 outputs, i.e. 2 × 34 bytes = 68 bytes
Base overhead: 10 bytes
Total size: 148 bytes + 68 bytes + 10 bytes = 226 bytes
Now we calculate the fees for both scenarios with a fee of 300s/vB:
Charges for 52 UTXOs: 7774 bytes × 300 SATS/byte = 2,332,200 Satoshis
Charges for 1 UTXO: 226 bytes × 300 sats/byte = 67,800 satoshis
The difference in fees is therefore 2.332,200 - 67.800 = 2,264,400 sats.
In general, it should be noted that UTXO management is not a singular goal, but a method of balancing multiple priorities, including data protection and short-term and long-term fee savings.
Another effective way to reduce transaction fees, particularly for small and frequent transactions, is Lightning Network. This “layer 2" protocol enables transactions outside the Bitcoin blockchain and is ideal for regular small payments. In the Lightning Network, payment channels are set up between users, in which transactions can be carried out almost free of charge and in real time. Transactions are only recorded on the main blockchain when a channel is closed.
If you use a Bitcoin savings plan, this means a significant reduction in fees while speeding up transactions, making it an attractive addition to UTXO management. A practical strategy could be to save up to a certain amount using transactions on the Lightning Network and then, once that amount is reached, transfer the collected Bitcoin to a hardware wallet or to transfer a similarly secure storage solution. This allows you to take advantage of the Lightning Network for smaller transactions while securing larger amounts of Bitcoin on a secure and private platform. We are currently in the process of fully implementing the lighting network. So stay tuned and be among the first to set up a Lightning savings plan when the time is right.
Effective UTXO management is important for anyone saving in Bitcoin, particularly when using a savings plan. By consolidating your UTXOs, you can avoid high fees and make your Bitcoin investments more efficient. Keep an eye on network fees and strategically manage your UTXOs to get the most out of your Bitcoin transactions.
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