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I'm not sure about the details but as far as I know luks has a long internal key that is used to encrypt the whole drive. This master key is encrypted with your passphrase and that encrypted key is stored on the drive.
When you add a file as a key the master key is encrypted using the binary contents of that file and stored as well. The contents of the file are basically an additional pass phrase.
So when it tries to decrypt the drive at boot it first tries to use the key file you give it. When that fails it asks for the pass phrase.
When you made the file
EncryptedSD.txt
it did not contain the same binary data as the pass phrase you created. Probably due to an additional newline or two. To get around that you add the whole file as it is as a valid decryption key.Often people might create an extra long key on an extra USB stick. Or if you want to decrypt the drive automatically with the option of setting up a pass phrase later you can initially create the volume only with a key file stored on the boot drive or so.
...I think you have something here. If I create a random password and save it via nano on a brand new file, and use this file as passphrase during the initial creation...it then doesn't let me open the encrypted device. It says no key available with this passphrase. When you input the cryptsetup open, you're only allowed to manually type the passphrase (it no longer accepts a file with the passphrase, I think). Curiously, both the file and the passphrase I type manually...are pasted from the clipboard from the same password randomly generated on bitwarden and then copied to the clipboard. And yet, it seems something doesn't match.
EDIT: Seems when you 'open' with a file, the appropiate way is
cryptsetup luksOpen /dev/sda encrypted --key-file /home/user/encryptedSD.txt