The inevitability of security tokens

Over the last couple of years, we have seen the emergence of the token economy and since then it is marching on at an incredible rate, despite the regulatory and technical hurdles that have been cast in their way. Without getting unnecessarily over complicated, we can break down blockchain issued tokens into three distinct types.

Utility token

A utility token is the most organic type of token for a blockchain-based system as they provide the function of using the blockchain that they operate on. From a legal point of view, they can truly be considered as a digital product rather than as security and the issuance of this kind of token is not subject to as many issues. A utility token is usually integrated into the digital product and can offer some functionality within the product ecosystem.

Backed token

Another type of token is called a “backed” token. These are digital currencies that are backed by fiat currency or a commodity. These are somewhere between a utility token and a security token, in the same way that a traditional commodity instrument and currency cannot exactly be considered as a security.

Equity token

The most controversial and complicated type of token is a security or equity token. These tokens are backed by an equity or profit in a business that does not even have to be related to blockchain. Throughout most global jurisdictions, these type of instruments are regulated by the Securities commissions with the most famous being the US SEC which provides very stringent reporting and compliance rules.

When it comes to the regulatory perspective, issuing utility tokens is the least complex whilst security tokens are the most complicated. This is why blockchain entrepreneurs are attempting to avoid securities laws by attaching some utility function to their ICO token and gaining a legal opinion that it is not a security. In the majority of cases, it does not bode well for businesses when they try to avoid the scrutiny of the SEC.

Stakeholders need to understand that not every ICO token can be a utility token as some projects quite clearly require a security-based token. A good example of this projects is that promise a buy-back of their tokens which essentially qualifies them as a security. It is reasonable to assume that eventually, all markets will use blockchain technology regardless of the nature of the instruments in question. This means that the emergence and development of security tokens are inevitable, despite all of the present legal complications.

E&S Group is a leading corporate & law firm offering various services with regards to ICOs. Feel free to contact us directly on +356 20103020 or by email at [email protected] to find out how E&S can help you in ‘making things happen’.

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