There have been lots of questions about blockchain technology and how it is poised to change the face of e-commerce forever. As if blockchain questions were not enough, there is the question on the use of tokens and the role they play in this exciting new technology. There also exists some confusion as to the differences between security and utility tokens. What exactly are they and why are there so many people who are very keen on getting onboard the token action?
What is a token?
To fully understand the differences between utility and security tokens, you first need to know what a token is as far as blockchain technology is concerned. A token is a value or utility issued by a particular company for a specific purpose. It is somewhat similar to stock investment though the difference lies in that you receive stock certificates in exchange for your investment. In the case of token investments, you either get a particular utility or certain value for each token received. When a company,for the very first time, issues tokens, it is referred to as an initial coin offering. It is comparable to an IPO or initial public offering in case of stocks investments in the sense that it is a way to raise initial or additional capital. There are two kinds of tokens, namely, the utility and security tokens. Each has its distinct purpose and use.
What is a utility token?
Similar to credit or gift cards, utility tokens are digital tokens allowing owners to get access to particular products or services.Although utility tokens are used by companies for purposes of raising initial or additional capital, consumers do not view them as investments. Why? They can only be exchanged for products or services but not cold hard cash. One good example of a utility token is the one issued by VINchain. Called the VINcoin,customers using this token can access some features or services that VINchain offers like complete vehicle history.
How about a security token?
A security token, on the other hand, closely resemble stocks or shares issued by corporations. They are considered assets or investments that can be traded like shares of stock. It derives its value from market trading, again very much similar to conventional stocks in financial markets.New companies that adopted blockchain technology and which do not want to use the conventional stock method issue security tokens during ICOs. Because security tokens can be traded, there is a need to comply with laws and regulations that govern securities trading. If tokens do not comply with such rules, companies that issued them can face serious legal troubles which might even disrupt their business operations.
What are other differences between utility and securitytokens?
Aside from the major dissimilarities already discussed,another difference is that security tokens can increase, decrease, or even lose its value. Furthermore, when the issuing company reports a profit, security token holders may receive additional tokens as dividends. The number of tokens a holder gets is largely determined by the number of tokens they own as evidenced by the Proof of Stake. Security token owners also own a piece of the issuing company, and along with it the right to vote on policies based on a unique system generated by the blockchain platform. This allows holders to have a say in company decisions. In contrast, utility tokens, while they may also increase or lose their value in the market, the holders do not have ownership rights. This means they do not have any control over decisions made by a company.
How to determine if what you have is a utility or security token?
Since both tokens are used to earn a profit, the difference between the two kinds of tokens can sometimes be a little blurry. It is for this very reason that the Securities and Exchange Commission developed a mechanism called the Howey Test. This mechanism can establish whether a token is a utility or security. There are two questions that must be answered in the Howey Test. The first asks whether holders of a token can help raise capital for a company and if they are entitled to a part of the profit made by such company. The second test asks whether the company wishing to raise funds generate profits by anyone aside from the founders of a project or company. If token holders answer “yes” to the two questions, then the SEC will most likely classify them as security tokens.
It is very important for those who wish to invest in tokens to know the differences between security and utility tokens. They must be aware that security tokens are heavily regulated by the SEC and it is not easy for small companies to issue such types of tokens. They must show proof of compliance with certain regulations and laws being applied to conventional and publicly listed companies. Knowing the difference matter a lot on whether ornot they earn a return on their investment.