Core Question

When you send crypto on Layer 2s (L2s), who is actually collecting your small fees, and how does that replace say an Ethereum transaction that is supposed to cost $5 with maybe .1 cents ($.001)?

What are Layer 2s?

Layer 2s are essentially extra networks built on top of existing networks. The most prominent is Ethereum with about 43 Layer 2s right now. These networks allow users to send the same crypto as they would on-chain but with drastically less fees. They also settle instantly, allowing fast and cheap crypto movement, sort of like a simple bank transfer. 

How do Layer 2s work?

When you click send on a Layer 2, your transaction first gets transacted to a cloud network, called a Sequencer. This is made up of one to a couple super powerful computers hosted either on private servers, decentralized node networks, or cloud provider hardware. These Layer 2s are operated either by a decentralized node network (BTC Lightning) or by a single corporation (like Base or OP Mainnet). But anyways, once your transaction is sent to the Sequencer, it checks your available funds to make sure you have enough and then it processes your transaction. It then keeps accumulating transactions, and once the number of transactions and/or fees reach a set limit, the Sequencer broadcasts those combined transaction as one big transaction to the Layer 1. 

This is how they are so cheap. By splitting the fee among thousands of transactions and users, you pay microscopic fees while the Sequencer aggregates all those fees and pays one bigger one to the main chain to do the final validation and to actually broadcast the change in funds.

The problem

You may have figured it out by now, but apart from a few decentralized node networks like BTC Lightning, the majority are operated by a single centralized corporation. So if the Sequencer bugs, has an update or maybe the server has an issue, the network has an outage. You are trusting other people's hardware. Now, rest assured, it is still safe as the outages last anywhere from a few minutes to a few hours. In addition, they happen about 1-2 times per major network per year on average. But if your goal is 0 downtime guaranteed, then Layer 2s might not be for you, although they are a very rare occurrence.

Another problem is that if the corporation suddenly wants to freeze transactions, or they put some sort of unintentional code vulnerability, the Layer 2 can be exploited and hacked. This can result in lost/frozen funds. 

Are they still safe?

With all this in mind, are L2s safe? I would say that for the average user, these are a great way to send crypto cheap and fast with almost zero risk, although if that "what if" keeps bugging you, then I would recommend using the Solana network, which is also my favorite. It offers same low fees and fast confirmations as Layer 2s while being a Layer 1, so less risks. The only disadvantage is that say you want BTC on Solana, you need wrapped BTC, which can lose its backing, but that is an issue for another post.