The Lightning Community is a set of fee channels between pairs of nodes. To create a fee channel, two customers commit funds to a UTXO beneath shared management. The shared funds enable the customers to pay one another by altering how a lot they may pay out to every finally. The state of the fee channel is saved in presigned Bitcoin transactions that spends the shared funds again to the person customers. So long as neither broadcasts the ultimate state of the channel to the Bitcoin community, you possibly can consider the funds within the channel like beads on an abacus—they’ll solely go from one facet to the opposite, however can not go away the channel. By having a number of channels, customers can ahead funds from one peer to a different, permitting funds between friends that don’t have direct connections. The Lightning Community permits for fast funds with a considerably compressed blockchain footprint.
Let’s say that you simply and I wish to open a fee channel.
We negotiate to every ship 0.05 BTC right into a shared 2-of-2 multisig output, the channel funding output.¹ This may require a transaction on the Bitcoin blockchain.
As a “stability sheet” and escape hatch, we negotiate a 2-of-2 multisig transaction that pays out 0.05 BTC to you and 0.05 BTC to me. We name this the dedication transaction.
The dedication transaction comes truly in two variants. I signal your dedication transaction and provides it to you. If you wish to put it in impact, you want solely add your personal signature and broadcast it to the Bitcoin community. Vice versa, you signal and provides me my copy of the dedication transaction. The dedication transactions are future transactions for the Bitcoin community, they’re simply not legitimate but as a result of we now have not truly created the channel funding output but, and since they’re every lacking one signature. The dedication transaction is available in two variants as a result of the copy you and I maintain are uneven: your dedication transaction places a timelock in your Settlement Output, and mine locks my Settlement Output. We’ll see under why we’d like that.
The dedication transaction ensures that both of us can shut the channel and return the funds to our respective controls by themselves. Now that we’re assured to have the ability to to get again our funds, we are able to signal and broadcast the funding transaction:
We’re later going to make use of the next shorthand to signify a channel and its present balances: 
Now, I wish to pay you 0.01 BTC. We every create a brand new dedication transaction (“stability sheet”) as earlier than, however this one says that you simply get 0.06 BTC and I get 0.04 BTC. Every of us will get a brand new dedication transaction signed by the opposite to that impact as earlier than.
To guarantee that neither of us can use the previous dedication transaction the opposite signed beforehand, we every create a justice transaction to stop dishonest. The justice transaction permits the channel associate to spend our timelocked output from our first dedication transaction to the themselves if we use the outdated dedication. If we use the right dedication, the funds go to ourselves after the timelock passes, till then the counterparty can take the funds if we cheated.
I.e. when I attempt to activate the (now out of date) 0.05 – 0.05 BTC stability sheet, my paid-out funds are locked for a lot of blocks. This offers you time to broadcast the justice transaction wherein I signed off on my 0.05 BTC output being despatched to you.
It is protected for me to offer you your justice transaction, or actually to anybody, as a result of the justice transaction will solely be legitimate as a response to the fraudulent use of the previous dedication transaction.²
With the setup as described above, I might have to return on-line earlier than the timelock expires to catch an try at dishonest, however clearly it would not be protected for me to maintain fee channels open if I is likely to be offline for prolonged intervals. Fortunately, there are watchtower providers that take a small fee to watch for dishonest and might broadcast the justice transaction in your behalf once they detect it.
Alright, now you and I can ship cash forwards and backwards 1000’s of instances, with nearly prompt impact (relying solely on how briskly we are able to talk with one another) with out including any extra transaction to the Bitcoin blockchain. But, alternatively, if certainly one of us ever tried to defraud the opposite, they might be immediately taken to court docket by having the dispute resolved on the blockchain to their very own detriment. Fairly spiffy, however not terribly helpful but.
By the speculation of six levels of separation, everyone seems to be linked to another participant by way of just a few hops.
As an instance you might be getting some espresso from Bob the Barista. You would not have a fee channel with Bob, however you have got the channel with me, and each Bob and me every have a fee channel with Alice. Let’s assume that every fee channel has 100 m₿ in it, cut up equally.
Our “community” now seems like this:
Now, since you do not have a direct fee channel to Bob (and it could be very inefficient when you needed to create a fee channel with each enterprise associate you ever meet), you route your fee by means of the community. As an alternative of solely writing an replace of the stability between Bob and also you as I described above, this turns into a concerted effort: Your pockets finds a route from you to Bob that has a) ample liquidity, b) least charges, and c) fewest hops. To make a fee, every concerned fee channel updates its balances. With a fee of 1 m₿ for the espresso, this updates our community to:
As you possibly can see, the balances on the ends have shifted appropriately from you to Bob, however the different contributors have the identical stability (though shifted to different fee channels). It is necessary to understand, that the fee can solely undergo utterly or under no circumstances. Both all of us replace the balances, or nobody does.
Now, think about that you do not have solely the one fee channel with me, however you have got perhaps a half a dozen fee channels with different customers! 🙂
Apart from within the above case the place one facet closes the channel unilaterally, certainly one of us can request to cooperatively shut a channel from the opposite. After we agree, we collaborate to create a last payout transaction that does not lock any funds and permits rapid spending after affirmation. We may even use this transaction to spend a few of our stability on to a 3rd social gathering on the blockchain, or to create one other completely different fee channel. Let’s say I wish to pay Carol on-chain after we shut the channel after the second dedication transactions have been exchanged.
- You can not obtain more cash by means of the Lightning Community in a single fee than the sum of your channel counterparties’ balances.
- Sender and receiver must be on-line for a fee to be performed.
- Your Lightning Community funds do not get recorded on the blockchain for eternity, (i.e. higher fee privateness), however your Lightning node has a everlasting identification and your introduced channels’ funding outputs are publicly related together with your node’s identification (observers could guess how a lot funds you have got deployed to the Lightning Community), or which outputs went to you when channels get closed.
- Instantaneous funds! However your funds are tied up in fee channels. Should you want these funds for an on-chain fee, it is advisable to shut the channel or splice out a fee with the help of your channel associate.
- Decrease charges! Funds on Lightning do not require an on-chain transaction charge, however when you route funds by means of others fee channels, they may cost a proportional charge for the liquidity they supply. Nonetheless, as different Lightning nodes are competing to switch your fee for you, this prices a lot lower than an on-chain transaction charge (except the fee quantity is big).
¹ This examples is a so-called “dual-funded” channel. Many channels are funded solely by one social gathering upon creation. Channels funded by one social gathering begin off with your complete stability on one facet and due to this fact solely able to sending funds however not receiving. Twin funded channels had been just lately carried out by some Lightning Community implementations for the primary time.
² The dedication transactions and justice transaction mechanism are why Lightning wanted the transaction malleability repair from segwit. We will solely depend on this chain of half-signed, unconfirmed transactions if the transaction id’s of the prior transactions may be predicted reliably.