Over the past months two tokens have gained a lot of attention of the crypto world: a security token and a utility token. Not many people understand differences between these two terms. What these phrases have in common and what differs them? Let’s find out.
It all comes down to the ‘Howey Test’. The Howey Test is a tool created by the Supreme Court of the US to determine whether a transaction is certified as ‘investment contracts’.The test determines if any token belongs to security or utility tokens.
If something has “security” in its name, it should give you some safety. A security token does precisely that: it protects you. A token is a device used to gain access to an electronically restricted source. At least, that is what Wikipedia says. But what does that really mean?
According to the ‘Howey Test’, a token is secure when the derivation of it is from external, tradeable asset. Then the token becomes prone to the federal regulations concerning security. Unaccepting these rules could cost a lot: penalties and even crashing of the whole project. Nevertheless, if a startup abides all the adjustments, the ‘security token’ label can be handy. It can open new varieties of applications including the qualification to issue tokens representing company’s stock.
An example of using a security token is PinkDate – the first blockchain-based global escorting platform. The service is similar to Tinder. The platform is an all-in-one app for escorts. It can help them do away with middlemen in this oldest industry of the world. PinkDate offers ICO. Investors get token shares representing equity in the firm for funding. Token shareholders pay dividends every three months. PinkDate has presented its financial plan for everybody to read.
Term ‘utility token’ is used alternatively with ‘app coins’ or ‘user tokens’ and this should be a clue what a utility token really is. The token hands over to users future access to a product or a service. Startups can raise money for an expansion of their blockchain ideas. A customer can buy access to a prospective service, sometimes even with a discount.
Probably the most important thing you need to know is that utility tokens are excluded from the legal regulations and the security laws. Secondly, they’re not created for investments. Sure, there are a lot of people, who give their money to startups, because they believe they can make a fortune out of it. But Utility tokens are more like tickets to a sports match. Imagine you want to buy tickets for a game. One month earlier both teams are on a winning streak. It could mean that tickets would be more expensive. If teams are on a losing streak, tickets can cost less to lure disappointed fans. That’s how utility tokens work.
What’s the difference?
There are many similarities, but what about differences? There are few.
First of all, it all comes down to Initial Coin Offering (ICO). Each new company has to select in what direction they want to go in the blockchain industry. Choosing utility over security a startup can avoid Securities and Exchange Commision (SEC). For many these legal regulations may be tough to pass.
But that’s not the whole case. The security token is safer, but the liquidity of it is excessively reduced. The trade of them is very limited for security reasons thus they cannot be transferred easily. On the other hand, utility token is easier to sell.
Buying a security token is like buying stock, it gives the holder ownership rights. A utility token is more like a digital coupon. Startups can sell it for the developing service. It’s like pre-orders in the video games business. You usually buy them months before they come out.
What’s better, then?
There’s no short answer to this question. Security tokens are covered by the law, but utility tokens are more accessible to sell. Security token entitles the holder to ownership rights, while an utility token doesn’t. There are pros and cons on both sides. We’re leaving it up to you to decide.
Last modified: October 5, 2018
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