How a Bitcoin Transaction Actually Works

Your wallet shows a balance, like a bank account. Bitcoin doesn't keep balances at all. Understanding what it keeps instead explains fees, confirmations, change addresses and most of the strange things wallets do.

What are UTXOs?

Bitcoin tracks unspent transaction outputs, usually called UTXOs. Every transaction creates outputs: chunks of bitcoin locked so that only a specific key can spend them. An output stays "unspent" until a later transaction uses it as an input.

Your wallet's balance is the sum of all the UTXOs your keys can spend. If you've received bitcoin five times, you probably hold five separate UTXOs of different sizes, like five banknotes in a wallet rather than one number in a ledger.

What happens when you send?

Say you hold two UTXOs, 0.3 BTC and 0.5 BTC, and want to send 0.6 BTC.

1. Choose inputs. Neither UTXO is big enough alone, so the wallet uses both, 0.8 BTC in total.
2. Create outputs. One output of 0.6 BTC locked to the recipient's address. A second, the change output, sends the rest back to a new address your wallet controls.
3. Leave a fee. Whatever the inputs add up to beyond the outputs is the fee. If the change output is 0.1998 BTC, the miner collects 0.0002 BTC.
4. Sign. Your private key signs the transaction, proving you can spend those inputs without revealing the key.
5. Broadcast. The signed transaction goes to nodes, which check it and relay it across the network.

UTXOs can't be partially spent. Like a banknote, you hand over the whole thing and get change back, and the change is a brand-new output.

How are fees calculated?

By size, not amount. Miners have limited block space, so they rank transactions by fee rate: satoshis per virtual byte (sat/vB). A transaction moving 100 BTC from one input can be cheaper than one moving 0.01 BTC from twenty tiny inputs, because each input adds bytes.

This is why wallets full of small deposits get expensive to spend from during busy periods, and why some people combine small UTXOs into one when fees are low.

What is the mempool?

Each node's pool of valid, unconfirmed transactions waiting to be mined. There's no single mempool. Each node keeps its own, and they're mostly similar. When a miner builds a block, it picks transactions from its mempool, generally the highest fee rates first, up to the weight limit.

When demand is high, the mempool backs up and the fee rate needed to get into the next block rises. When demand falls, low-fee transactions clear.

What does a confirmation guarantee?

A transaction has one confirmation when it's included in a block, and one more for each block added after that. Reversing it would mean re-mining that block and every block after it, faster than the rest of the network adds new ones. That gets exponentially harder with each confirmation, which is where the "six confirmations" convention comes from.

Zero confirmations means the transaction is only in mempools. It can still be replaced or dropped, which is why nobody should treat an unconfirmed payment for something valuable as final.

Why does this matter for tracking?

Because one wallet is really many addresses. Every change output goes to a fresh address, so watching a single address quickly undercounts. That's the most common reason a tracked Bitcoin balance looks wrong. Tracking by extended public key (xpub) lets a tracker find every address the wallet has used, without ever being able to spend from it. Our guide to tracking a Bitcoin wallet walks through the difference.