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What Is a Utility Token?

By Brian Nibley · December 22, 2021 · 5 minute read

We’re here to help! First and foremost, SoFi Learn strives to be a beneficial resource to you as you navigate your financial journey. Read more We develop content that covers a variety of financial topics. Sometimes, that content may include information about products, features, or services that SoFi does not provide. We aim to break down complicated concepts, loop you in on the latest trends, and keep you up-to-date on the stuff you can use to help get your money right. Read less

What Is a Utility Token?

While the word “cryptocurrency” is often used as an umbrella term to describe all digital assets, there are actually several specific types of cryptos. Most of them fall into two main categories: coins and tokens.

Coins, or currencies, have one function: to transfer monetary value. Bitcoin (BTC) and Litecoin (LTC) are good examples of currencies.

Tokens, on the other hand, are a different class of cryptos entirely. Security tokens and utility tokens are the most common types.

Definition of Utility Token

A utility token is a crypto token that serves some use case within a specific ecosystem. These tokens allow users to perform some action on a certain network.

A utility token is unique to its ecosystem. Brave’s Basic Attention Token (BAT), for example, can only be used to tip content creators through the Brave browser or through other applications that have integrated BAT wallets, like Twitter. BAT has no other use beyond speculating on its value. The same can be said of any utility token.

Utility tokens are not mineable cryptocurrencies. They are usually pre-mined, being created all at once and distributed in a manner chosen by the team behind the project.

Utility Token vs Security Token

The main difference between a utility token and a security token is that security tokens give rights of ownership to a company. Think of them sort of like digital, decentralized shares of stock. Security tokens are also classified as securities by financial regulators like the Securities and Exchange Commission (SEC), making them subject to all the same rules as stocks, bonds, ETFs, and other securities.

While utility tokens are not currently classified as securities, there has been some speculation that one day, they could be. Even though these tokens are not intended to represent an investment the way that security tokens are, that’s not what matters most to regulators. The SEC uses something called the Howey Test to determine whether or not an investment is a security.

The criteria of this test are:

•   A monetary investment

•   People invest because they expect to make money

•   The investment is a “common enterprise,” meaning investors will only make money based on what the issuers of the investment do

•   Profits are dependent on the work of a third party

If the investment in question checks the above boxes, the SEC considers it a security. It’s not difficult to argue that they can apply to most tokens and cryptocurrencies.

What Are Utility Tokens Used For?

A utility token can serve just about any purpose a developer wants it to. In general, utility tokens provide access to a specific service or product with a blockchain ecosystem. In other words, you might need a certain utility token to be able to perform actions on an altcoin’s network.

While cryptocurrencies are a form of digital money, utility tokens might be better described as pieces of software. They can be used to transfer value, but that’s generally not their main purpose.

To swap tokens on a decentralized exchange (DEX), or do any number of decentralized finance (DeFi) activities, users may need a specific DEX token. Alternatively, such a token could be used to reward users of the platform or to pay out interest to those who deposit funds that the platform then lends out to borrowers.

Non-fungible tokens (NFTs) serve as a type of unique utility token, too. An NFT token is a one-of-a-kind digital piece of art, although NFTs can also be applied to things like music.

Utility tokens that have been used in Initial Coin Offerings (ICOs) could even be used for malicious or fraudulent reasons. For example, during the ICO craze of 2017-18, some new blockchain projects offered utility tokens to investors with promises of great returns. In reality, the projects were fake, and there wasn’t even any new software application being built. Investors who decided to buy ICO tokens like these often had no recourse and lost everything.

Examples of Utility Tokens

There are countless crypto projects that have made use of a utility token. Here are a few popular utility token examples. Most of these tokens run on the Ethereum network.

Basic Attention Token (BAT)

BAT token works with the Brave browser, which is designed to be secure and private. The Basic Attention Token allows for a new advertising revenue model that does away with the need for constant tracking of user’s behavior. Brave users can earn BAT by opting-in to view advertisements. BAT can then be used to tip content creators on their websites or on Twitter.

Chainlink (LINK)

Chainlink (LINK) is what’s known as an “oracle.” Oracles input data from an external source and upload that data to the blockchain. This can be useful for smart contract applications that need real-time price data.

0x (ZRX)

0x hopes to create a secure and fast crypto trading platform that incorporates elements of both centralized and decentralized exchanges.

Binance Coin (BNB)

Binance Coin (BNB) falls under the category of “exchange tokens,” or a token that is native to a specific crypto exchange’s ecosystem. In Binance’s case, users who hold BNB on the platform enjoy a 25% discount on trading fees. Instead of the fees being taken in the form of fiat or the crypto being traded, fees are deducted from the trader’s BNB balance instead.

Zilliqa (ZIL)

Zilliqa is a platform for creating decentralized applications. The goal is to make these apps more affordable and secure for developers. ZIL tokens also have uses in gaming and facilitating digital advertising.

Aurora (AOA)

Aurora is a decentralized banking platform for crypto. The system runs on smart contracts. The AOA token is a stablecoin that is backed by endorsements, debt, and reserves of cryptocurrency. There’s also a decentralized exchange.

What Are the Challenges of Using Utility Tokens?

Aside from regulatory challenges, there are technological and market challenges associated with the use of utility tokens.

One technical challenge involves transaction fees. Because many utility tokens are ERC-20 tokens running atop the Ethereum blockchain, Ether gas fees can sometimes get very high. As more people vie for space in the next block, they bid up gas prices, making it more expensive for everyone to make any transaction on the Ethereum network.

Like most altcoins, utility tokens can be used as vehicles for financial speculation. Depending on the purpose of the token, this could raise issues. If a certain dollar amount of tokens is required for users to do something on a network, and the dollar value of the token fluctuates wildly, users may struggle to anticipate how many tokens they need.

This is part of the reason why some utility tokens are stablecoins, or coins that are designed to maintain a 1:1 ratio with another asset, most commonly a fiat currency like the U.S. dollar.

The Takeaway

A utility token is a type of token that has a specific use case. Most of these tokens are created on an existing blockchain like Ethereum — the applications that these tokens are used for are created using Ethereum smart contracts, and the token then runs atop the Ethereum blockchain.

Some other platforms that developers might use for similar purposes include Solana (SOL), Tron (TRX or Tron token), or the Binance Smart Chain.

For investors curious about crypto trading, SoFi Invest® offers trading with more than two dozen cryptocurrencies, including Bitcoin, Chainlink, Ethereum, Dogecoin, Solana, Litecoin, Cardano, and Enjin Coin.

Find out how to get started with SoFi Invest.

Photo credit: iStock/PeopleImages


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