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How To Fork Your Deposit

By 3Сommas Blog on The Capital

The terms soft fork and hard fork are often heard in cryptocurrency publications. Beginners often disregard such events, while experienced cryptocurrency users, on the contrary, keep an eye on the popular coins for upcoming forks so they can take advantage as early as possible.

In this article, we will dive into what is meant by “hard fork” and “soft fork,” the difference between these two concepts, the reasons behind these events, and how to benefit from them.

The main goal of a fork is to correct any drawbacks present in the network or to address critical issues like bugs, security, scalability, or transaction speed problems or upgrades. Separate groups of participants can offer various ways to eliminate the mentioned shortcomings or ideas to implement, and if they fail to come to a consensus, a split occurs.

Soft fork

A soft fork is a mild modification of the source code, which is always backward compatible with the network settings. A soft fork does not result in new coin creation. Nodes using the old version of the software will work as long as their actions do not conflict with the latest updated protocol. For example, if the block size has been reduced, legacy nodes will be able to continue verifying transactions. Yet, they will not be able to synchronize the old version of the blockchain, following the older, larger block size rules.

In most cases, soft forks implement useful functionality of the existing cryptocurrencies, but they do not offer any profit opportunity. For example, the Bitcoin network is expecting a soft fork in the near future, which will add Schnorr and Taproot technologies to the code of Bitcoin (the first-ever cryptocurrency). These innovations are designed to increase network scalability, as well as improve transaction confidentiality.

Hard fork

As the name implies, a hard fork is a more rigid modification of the cryptocurrency source code. It is either a radical change in the protocol that is incompatible with the previous version or network branching, which may lead to a hard fork. In the first case, it takes the mutual agreement of the community to update the entire system. Otherwise, if the community is divided, a new coin appears, and each of the blockchains continues its independent development. Since both chains have a shared history, all prior transactions are copied to the new blockchain.

As we’ve mentioned above, hard forks lead to a separation of networks, and often the owners of the original network’s coins are entitled to a proportional number of coins in the new network. For example, in 2018, the most recognized hard fork in the Bitcoin (BTC) network occurred. This led to the appearance of a second chain called Bitcoin Cash (BCH). BTC holders received an equivalent amount of freshly minted BCH coins for every Bitcoin in their possession.

At the time of the hard fork BTC chart shows the price of $2,750 per coin.

On the BCH price chart, we see that initially, the cost of one coin was around $450 or 0.15 BTC. That means that having bought BTC before the fork, you could get about 20% of the profit on your deposit, without taking the BTC price change into account.

Disregarding the change in the BTC price, having bought BTC before the fork, you could get around 20% profit on your deposit.

Network hard forks may bring changes to the following guidelines:

  1. Emission;
  2. Mining algorithm;
  3. Block reward;
  4. Block generation period and size.

Ethereum

In 2016, a hacker attack on the young Ethereum (ETH) network’s decentralized venture asset fund (DAO) occurred. $43.9 million was blocked as a result of this attack. However, the attacker could only gain possession of the coins 27 days later, after the coins were unlocked. The Ethereum community decided not to wait for the expiration of this period and roll the system back to return the stolen funds. This solution divided the community surrounding the project and was not approved by some users. This resulted in the fork of the network, and creation of an additional cryptocurrency — Ethereum Classic (ETC).

Conclusion

Hard forks and soft forks are substantially similar in the sense that when an existing platform code is modified, the old version remains online while a new one is created and adopted. In the case of a soft fork, eventually, only one blockchain will remain in effect as users gradually accept the update. While in the case of a hard fork, both the old and the new blockchains exist side by side, which means that the software must be updated for the new rules to be followed.

If you receive coins or tokens from a fork, then in most financial jurisdictions you will be subject to tax and you should check with your country’s tax laws to see how to deal with this on your next tax return.

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3Сommas Blog

3Сommas Blog

Trading blog. Tools, bots, strategies.