Tokens: Types and Functions
As you all already know, an ICO can’t exist without tokens. However, a lot of people are somewhat bewildered and don’t have a clear idea of what they are, what their function is, and why projects need to issue their own coins. Let’s figure this out.
First of all, a token is a digital asset that an investor receives from the issuing company in return for the invested money.
The digital token might have one or several functions:
— the right to get access and use products or services within a specific project.
— an internal currency of the project to pay for services, for instance.
— share in the authorized capital of the company with the right to receive profit as a percentage of the company’s income.
— the right to own tokens in the framework of a particular project.
— the right to vote and participate in the development of the project.
— means to encourage users by rewards.
— a debt obligation with the right to receive interest.
— bonuses or discounts on products and services.
— an asset that can be sold on the exchange to receive profit from the difference in the exchange rate.
There are three main types of tokens depending on their functions. Each is coming with its own merits:
1. Utility Tokens
Also called user tokens, utility tokens are units that can be purchased, enabling users to get access to a product or service provided by the project.
Simply put, utility tokens is like a ticket to get on a ride in an amusement park. Some people contribute to utility tokens with hope to get some profit as the demand for the company’s product steps up. However, utility tokens are not created as investments, and they don’t provide holders with an ownership stake in a company’s platform. They function as coupons. They don’t have direct relations with the project’s further development and flourish.
2. Security Tokens
Security tokens are the type of tokens most people would probably like to buy. But there is one organization called SEC (The U.S. Securities and Exchange Commission) and Howey test that everyone is trying to avoid.
For those who aren’t familiar, Howey test is the regulations created by the Supreme Court that determine whether certain transactions considered as investment contracts. If so, those transactions are qualified securities and therefore become subject to specific registration requirements. To give you a quick understanding of the test, here are some questions it has:
• Is the investment of money or assets in a common enterprise?
• Is there an expectation of profits from the investment?
• Does any profit come from the efforts of a promoter or third party?
The 18 pages of the SEC report details what makes a token a security. If the token doesn’t meet the three first requirements of the test, it is considered as a utility token.
Unlike utility tokens, security tokens, also known as tokenized securities or equity tokens, represent shares of the company’s stock. The security tokens are subject to federal securities regulations. So the failure to abide by these regulations could result in serious penalties or even threaten to wreck a project.
3. Dept Tokens
The dept tokens represent the equivalent of short-term loans on an interest rate on the principal amount loaned to the company. They can be compared to capital raised through debt.
However, there are also mixed types of tokens. An example is the token of Siacoin (SC) that combines the functions of utility tokens because it is only after the purchase of the token when the users can use the Siacoin system. SC also holds the function of equity tokens as the token holder can receive payment for providing disk space for files storage.
Most of the people hope that the security token will eventually become the predominant type of an ICO token. However, you, as an investor, should get guidance from a legal professional before contributing to a security token. You must know what you are getting into and understand how it works.
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