Security Tokens vs Utility Tokens
What is a token?
Tokens can come in various different forms and functions and are therefore hard to define. Some represent a user’s reputation within a system (augur), a deposit in US dollars (tether), the quantity of files that are saved in it (filecoin) or the balance in some internal currency system (bitcoin)
Thus, a token can fulfil either one, or several of the following functions:
- A currency, used as a payment system between participants
- A means for accounting (number of API-calls, volume of torrent uploads)
- A digital asset (a digital right like land ownership)
- A share (stake) in a company
- A reward for contributors (i.e. Steemit)
- Payment for using a system/product/service
Utility tokens, also called user tokens or app coins, represent future access to a company’s product or service. Because the term “ICO” is a derivative of “initial public offering” (ICO), utility token creators usually refer to these crowdsales as token generation events (TGEs) or token distribution events (TDEs) to avoid the appearance that they are engaging in a securities offering.
If a crypto token derives its value from an external, tradable asset, it is classified as a security token and becomes subject to federal securities regulations. If a startup meets all its regulatory obligations, the security token classification creates the potential for a wide variety of applications, the most promising of which is the ability to issue tokens that represent shares of company stock. Failure to abide by these regulations could result in costly penalties and could threaten to derail a project.
The key difference between utility and security tokens is that utility tokens function as coupons and give holders no rights or stake in a company’s platform or assets whereas security token holders are entitled to ownership rights.