What Is a Staker and How Do They Secure a Blockchain?

A staker is an individual or entity that plays a part in securing and maintaining a specific type of blockchain network. They contribute to the network’s operations by committing their cryptocurrency holdings. This involvement helps ensure the integrity and functionality of the blockchain.

Understanding Staking

Staking is a fundamental concept in blockchain technology, particularly within Proof of Stake (PoS) networks. It involves participants locking up cryptocurrency to support network operations. Staking acts as an alternative to energy-intensive “mining” in Proof of Work (PoW) systems, which relies on computational power.

In a PoS system, staked cryptocurrency serves as capital, allowing the network to select validators to confirm transactions and create new blocks. This significantly reduces computational power and energy consumption compared to PoW blockchains, as seen with Ethereum’s transition.

Staking ensures blockchain security, integrity, and operational continuity. Stakers validate new transactions, add them to the distributed ledger, and maintain network trustworthiness without a central authority. The system incentivizes honest behavior, penalizing staked assets if a validator acts maliciously or fails duties.

An algorithm determines which staker validates a new block, considering factors like the amount and duration of staked cryptocurrency. This mechanism ensures participants with a vested interest are chosen for validation, forming the backbone of efficient and secure PoS blockchains.

The Role of a Staker

Stakers commit their cryptocurrency holdings to support a Proof of Stake (PoS) blockchain. This involves locking up digital assets to enable their selection as validators, contributing to the network’s decentralized governance and integrity.

Stakers validate new transactions, propose new blocks, and ensure network security. When chosen to validate a block, they verify transaction legitimacy and adherence to network rules. This active involvement is essential for the blockchain’s continuous operation.

Correct performance earns rewards, but malicious actions or failures can result in “slashing,” where a portion of staked assets is confiscated. This penalty system aligns staker financial interests with network health, incentivizing honest behavior and high uptime.

Stakers maintain the blockchain’s decentralized nature by distributing validation power across many participants. This distributed validation enhances network resilience against attacks, preventing control by a single entity.

Methods of Staking Participation

Individuals can engage in staking through several distinct methods, each offering different levels of involvement and technical requirements. One such method is solo staking, where an individual runs their own full node and participates directly in the network’s consensus mechanism. This approach provides the staker with complete control over their funds and setup, and they receive rewards directly from the protocol without intermediaries. Solo staking often requires a significant amount of the network’s native cryptocurrency, such as 32 ETH for Ethereum, along with technical expertise and dedicated hardware to operate a node 24/7.

Another common method is delegated staking, which allows token holders to delegate their cryptocurrency to a chosen validator who runs the node on their behalf. This option is suitable for those who may not have the technical knowledge, sufficient funds, or desire to operate their own validator node. The delegator’s tokens contribute to the validator’s overall stake, increasing the validator’s chance of being selected to validate blocks and earn rewards, which are then shared proportionally with the delegators after the validator takes a fee.

Liquid staking represents a newer approach that addresses the liquidity constraints of traditional staking. In liquid staking, users stake their assets but receive a liquid token in return, representing their staked position. This derivative token can then be used in other decentralized finance (DeFi) protocols, such as for trading, lending, or providing liquidity, while the original assets remain staked and continue to earn rewards. This method allows stakers to maintain access to their capital, offering increased flexibility compared to traditional locked-up staking arrangements.

Staker Compensation

Stakers are compensated for their contributions to network security and transaction validation through a system of rewards. These rewards typically originate from two primary sources within the blockchain protocol: transaction fees and newly minted cryptocurrency tokens.

When users conduct transactions on the network, they pay fees, and a portion of these fees is distributed to the stakers who validate and include those transactions in new blocks. In addition to transaction fees, stakers often receive newly issued cryptocurrency tokens as block rewards. These new tokens are created by the protocol and distributed to stakers for successfully proposing and validating new blocks.

The amount of compensation a staker receives is generally proportional to the quantity of cryptocurrency they have staked and, in some protocols, the duration their assets have been committed. The Internal Revenue Service (IRS) has issued guidance regarding the tax treatment of cryptocurrency staking rewards in the United States. Under Revenue Ruling 2023-14, the IRS clarifies that a cash-method taxpayer must recognize the fair market value of validation rewards as gross income in the taxable year they gain dominion and control over these rewards. If the staking activity qualifies as a trade or business, the income may also be subject to self-employment taxes.