Proof of reserves is a method by which an exchange demonstrates it holds enough assets to cover what it owes customers. Typically it works by publishing wallet addresses and cryptographic proofs that let users verify their own balances are included. After FTX collapsed in November 2022 having commingled customer funds with company money, the practice spread rapidly. It answers one question well and leaves a more important one unanswered.
Why exchange balances need verification
An exchange balance is a database entry. Nothing more. About the number on your screen, nothing proves the exchange holds the coins behind it.
In traditional finance, audits, regulation, and deposit insurance handle this. Historically, crypto exchanges had none of the three, and several of the largest collapses, from Mt. Gox in 2014 to FTX in 2022, involved platforms that did not hold what they claimed.
Without waiting for regulation to catch up, proof of reserves attempts to make holdings verifiable.
How a Merkle tree proof works
At the core of the standard approach sits a data structure called a Merkle tree.
- The exchange takes a snapshot of every customer balance at a specific moment.
- Each balance is hashed, and the hashes are combined in pairs repeatedly until one root hash represents the entire set.
- The exchange publishes the root and the addresses of the wallets it controls.
- Any customer can verify that their own balance is included in the tree without seeing anyone else's.
- Anyone can check that the published wallets hold at least as much as the tree represents.
Some exchanges have a third-party firm attest to the snapshot. Some sign a message from each wallet to prove control.
What the proof shows: exchange assets at one moment
That at one moment, wallets the exchange controls held at least as much as the customer balances summed to.
Real and useful, as far as it goes. And it goes exactly as far as the asset side of a balance sheet, not one step onto the liability side where solvency gets decided. Every customer should understand that gap before treating a published proof as reassurance. Ruled out is the simplest form of fraud, where an exchange displays balances it does not hold at all.
What it does not prove: liabilities and solvency
Here is the section that matters. It is longer.
| Gap | Why it matters |
|---|---|
| Liabilities | Proving assets says nothing about debts. An exchange can hold $1 billion in coins and owe $2 billion to lenders |
| Timing | A snapshot proves one moment. Funds can be borrowed for the snapshot and returned afterwards |
| Ownership vs control | Signing from a wallet proves control, not that the assets belong to the exchange rather than a lender |
| Off-chain obligations | Customer balances in the tree may exclude some accounts or products |
| Frequency | Quarterly or ad hoc proofs leave long gaps |
| Who checks | Most customers never run the verification |
At FTX, the liabilities gap was the one that mattered. Substantial assets sat on the exchange's books. Having lent customer funds to an affiliated trading firm, it owed far more than it held. Showing those assets, a proof of reserves would have looked reassuring.
Proof of reserves vs an audit
Two different things, frequently conflated.
Proof of reserves is a cryptographic demonstration of assets held at a moment.
An audit examines an entity's financial statements, controls, and processes over a period, including liabilities, by an independent firm applying professional standards and bearing liability for the opinion.
Several firms that provided proof of reserves attestations in 2022 withdrew from the practice within months, citing concerns about how the work was being interpreted. An attestation that assets exist is not an opinion that a business is solvent.
Proof of reserves vs regulation
Here is the honest comparison.
Proof of reserves is voluntary, self-reported in scope, and covers assets only. By law, regulation requires segregated client funds, gives a supervisor power to inspect books at any time rather than at a chosen snapshot, imposes capital requirements, and covers liabilities. Beyond that, it creates an authority to escalate to.
Complementary rather than alternatives, the two work together. From a regulated exchange that also publishes reserves, you get both. From an unregulated one publishing reserves, you get a snapshot of half the balance sheet.
What to look for in an exchange and its proof
- Is it regulated, and by whom? Verifiable on the regulator's own register.
- Are client funds segregated by requirement, not just by policy?
- Does the proof cover liabilities? Almost none do.
- How often is it published?
- Who performs the attestation, and does that firm still stand behind it?
- Can you actually verify your own balance, and have you?
Security you can verify on mb.io
At a moment, proof of reserves shows assets. Continuously, regulation covers the rest of the balance sheet.
mb.io is a regulated crypto spot exchange backed by MultiBank Group, a financial institution founded in 2005 that serves more than 2 million clients across 100+ countries.
- Regulated by VARA in the UAE and AUSTRAC in Australia, both verifiable on public registers
- Institutional-grade MPC custody powered by Fireblocks, with segregated client funds
- 10/10 security score from Hacken, an independent blockchain security auditor
- A curated list of assets, so you're not sorting through thousands of tokens to find the ones worth trading
- Buy, sell, and swap in three steps, from sign-up to purchase
- 24/7 multilingual client support
Open your account and start trading on mb.io.
Frequently asked questions
What is proof of reserves?
A method by which an exchange demonstrates it holds enough assets to cover customer balances, typically by publishing wallet addresses and a Merkle tree proof that lets each customer verify their balance is included.
Does proof of reserves mean an exchange is solvent?
No. At one moment, it proves assets held. About liabilities, which determine solvency, it says nothing. FTX held substantial assets and owed far more.
What is a Merkle tree in proof of reserves?
A data structure where individual balances are hashed and combined until one root hash represents the whole set. It lets a customer verify their balance is included without revealing anyone else's.
Why did auditors stop doing proof of reserves?
Several firms withdrew in 2022 and 2023, citing concern that attestations of assets were being interpreted as opinions on solvency, which they were not designed to be.
Is proof of reserves the same as an audit?
No. An audit examines financial statements, controls, and liabilities over a period, by a firm bearing professional liability. By contrast, proof of reserves is a cryptographic snapshot of assets.
Can proof of reserves be faked?
Funds can be borrowed for the snapshot and returned afterwards, and the scope of included balances is set by the exchange. Harder to fake than a bare claim, and far from airtight.
Is proof of reserves better than regulation?
Different things entirely. Regulation requires segregated funds, gives supervisors inspection power at any time, imposes capital requirements, and covers liabilities. Proof of reserves adds a verifiable asset snapshot on top.
How do I verify my balance in a proof of reserves?
Exchanges that publish one typically provide a tool where you enter your account identifier and confirm your balance appears in the Merkle tree. Most customers never do this, which limits how much the practice protects.
