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Utility Tokens Explained

What is a Utility Token

If you find tokens complicated to grasp, we fully understand. There are different types of tokens, and they all work in slightly different ways. Utility tokens are just one of them.

Let’s focus on utility tokens – what they are, how they compare to other tokens, and what are some utility token examples!

Utility Tokens Definition

You likely often hear the words token, coin, and crypto used interchangeably as if they all referred to the same. To a novice investor, coins like Bitcoin (BTC) and Ethereum (ETH) may appear similar to other crypto assets like tokens. While that may be true to some degree, fundamental differences exist between each. Understanding them could help you make a better-informed choice when going for an investment.

Utility tokens are a popular class of crypto tokens that act as a store of value and grant users access to a specific service or product in the blockchain ecosystem. Most of the available cryptocurrency tokens fall under the utility token category. They have many use cases: digital confirmation of ownership, method of payment in a given blockchain, method of reward or incentivizing specific activities, right to vote, and others.

As a separate crypto asset, a utility token can generate profits if its associated cryptocurrency project becomes successful. Scalable project tokens with many holders usually gain in value systematically.

How Utility Tokens Work

Like blockchain-based tokens in general, utility tokens use smart contracts to implement transactions. Smart contracts are blockchain applications that serve to perform transactions after a certain set of conditions are met. Each blockchain has a technical standard for defining a smart contract. 

Utility tokens differ from crypto coins. Coins operate on a native blockchain, while tokens use an existing blockchain infrastructure. Coins are mined, and tokens are created on the basis of smart contracts.

How to Get Utility Tokens

The devs and owners of a particular crypto project generate utility tokens by way of smart contracts and distribute them in line with a predefined strategy, meaning that utility tokens cannot be mined.

Utility tokens are the first assets to sell during the initial stages of a crypto project’s development. Therefore, they’re primarily associated with initial coin offerings (ICOs), the process of gathering the funds to get a project off the ground.

Despite their association with ICOs, owning utility tokens doesn’t mean you have a stake in a project. Their primary purpose is to fulfill a utility function; any financial or investment aspect comes second. Think of them as special keys that give you access to certain services and products.

Utility Tokens vs. Security Tokens

Utility tokens can be an investment, and security tokens can provide access to products and services, but there are two crucial differences between the two. Mainly, the two types of tokens serve different purposes. As already mentioned, utility tokens utilize blockchain technology to provide access to a certain service. Security tokens, in turn, have a financial dimension to them; you can buy them if you’d like to own a stake in a business.

First off, security tokens are issued in heavily regulated security token offerings (STOs), which is a form of initial public offering (IPO) dubbed ‘tokenized IPO’. In contrast, companies distribute utility tokens in unregulated ICOs. Sidenote – as a result of the lack of regulation, many scams and fraudulent ICOs have taken place, extorting millions of dollars from users. 

The fact security tokens are issued in a similar way as IPOs points to another distinction. Security tokens fall under the radar of regulators. In the United States, among several other countries, the US Securities and Exchange Commission treats security tokens as securities. For the SEC to regulate anything, it must pass the Howey test, which determines if it’s an “investment contract”. Security tokens do pass this test.

Utility Tokens vs. Equity Tokens

Utility tokens are listed on most crypto exchanges and can be traded, much like equity tokens. Unlike equity tokens though, they buy you access to a service rather than an investment or a stake in the project. 

On the other hand, equity tokens are a type of security tokens that come with their own set of benefits and advantages. Issued through an equity token offering (ETO), equity tokens are subject to regulation by government agencies. Similarly to utility tokens, equity token holders can participate in the decision-making process in the network, with voting rights proportionate to their holdings.

Utility Token Challenges

As unregulated assets, utility tokens may pose certain challenges that you need to consider.

The first one relates to fees. Since most utility tokens are ERC-20 compliant and run on the Ethereum blockchain, the price can skyrocket as more and more people try to get their space in the next block. This makes it harder for anyone to do transactions.

From an investor point of view, utility tokens are in essence altcoins. As such, some use these tokens for financial speculation which can cause sudden value fluctuations, affecting the ecosystem negatively. Such a situation can then make it almost impossible for users to know the exact amount of tokens they’ll need for transactions. 

Utility Token Examples

The following are examples of utility tokens that have performed well on the market.

Binance Coin (BNB)

The utility coin for one of the biggest crypto exchanges in the world. If you own one, you get a 25% discount on trading on Binance’s market. A good deal if you’re looking to stick around for the long haul.

Decentraland (MANA)

MANA is one of the three tokens currently used in Decentraland, a 3D virtual world platform where users can buy virtual plots of land and thus make money in the real world. Decentraland uses the structure of a decentralized autonomous organization (DAO). Holders of MANA control how Decentraland works by voting on protocol updates and the rules that govern the world.

MANA is an ERC-20 token and thus uses the Ethereum network. Users can spend MANA on various things – from buying real estate and hosting exhibitions to voting on rules regarding trades and auctions and the type of content permitted in Decentraland.

Axie Infinity (AXS)

Is it a game? Is it a crypto market? Well, it’s both! The Axie Infinity is a game that utilizes blockchain technology, and with AXS, you can improve and train your in-game monsters.

Bar the turmoil they had in the previous months, Axie Infinity still boasts a large community with 100,000+ active players.

Basic Attention Token (BAT)

The Basic Attention Token is associated with Brave, a private and secure browser where users can decide if they want ads or not! BAT, which runs on the Ethereum blockchain, is essentially a system for tracking how much time and attention users spend on websites using the Brave browser.

If you want ads, with the proper settings, you can watch ads and get BAT and then use those same tokens to reward or tip your favorite content creators! The token’s task is to effectively distribute advertising money between advertisers, publishers, and readers of marketing content.

Aurora (AOA)

This is the token that powers the Aurora platform, which serves to enable the creation of blockchain-based applications in a simple and fast way.

Zilliqa (ZIL)

Zilliqa is a third-generation blockchain platform for creating decentralized applications (dApps). ZIL also has uses in gaming and digital advertising. Zilliqa has developed its own smart contract programming language called Scilla, which guarantees security but poses an entry barrier for dApp developers.

Takeaways

Information is vital, so make sure you do your research before putting down money on any utility token. First, research some crucial questions like what type of token you need, and whether this is something you can use or will have use in the near future.

Pack up on knowledge, and you’ll be all set to pick an interesting platform to participate in, spend some fiat currency and collect utility tokens.

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