Definition:
The term Hashed TimeLock Contract or HTLC refers to a special feature used to create smart contracts that can modify payment channels. The feature reduces counterparty risk by creating a time-based escrow that can only be unlocked using a cryptographic passphrase.
Understanding the term:
A Hashed Timelock Contract or HTLC refers to a special feature that is used to create special smart contracts that can modify payment channels, thereby allowing time-bound transactions between two users. As a result, the person receiving the funds in a transaction has to enter the correct passphrase and claim payment within a specific timeframe. The person will lose access to the payment if they do not claim the funds within the specified timeframe or enter an incorrect passphrase. While HTLC transactions use several elements from existing crypto transactions, there are two elements that distinguish them from standard crypto transactions – The hashlock and the time contract. The hashlock is a cryptographically scrambled version of a public key that is generated by the individual that initiates the transaction. The time lock is a type of restricting mechanism that locks out a transaction until a specified time period is not reached. Some of the use cases of HTLCs include the creation of a time-based escrow, allowing time-delayed payments, atomic swaps, and the lightning network. A good example of a hashed timelock contract is an atomic swap. An atomic swap is a variant of smart contracts which allows cryptocurrency transactions to be settled without the use of central bodies, intermediaries or exchanges. This ensures the faster settlement of transactions without any third-party intermediary.
Takeaways:
A Hashed Timelock Contract creates a time-based escrow that utilizes a cryptographic passphrase, thereby reducing counterparty risk in smart contracts. This specific type of smart contract requires the receiver to acknowledge it within a certain period of time or forfeit it altogether.