Fee Distribution Mechanism

The most common feature, where users stake the protocol's native token to earn a share of the fees. This creates a direct alignment between token holders and protocol success. Mechanisms vary:

• Direct Revenue Share: A percentage of all fees is distributed pro-rata to stakers.
• Buyback-and-Burn: Fees are used to buy tokens from the open market and burn them, creating deflationary pressure.
• Example: SushiSwap distributes 0.05% of all swap fees to xSUSHI stakers.

Protocols implement tiered systems where holding or staking a certain amount of the native token grants fee discounts or rebates. This incentivizes long-term alignment and capital commitment.

• Holding-Based Tiers: Users receive fee reductions based on their token balance (e.g., GMX's fee discounts for staking GLP).
• Staking-Based Tiers: Higher staking levels unlock better terms, such as reduced borrowing rates on lending protocols.
• This creates a flywheel effect, where fee utility drives token demand.

A foundational feature where fees generated by a liquidity pool are distributed to the liquidity providers who deposited assets. This compensates LPs for impermanent loss risk.

• Automated Market Makers (AMMs): Swap fees (e.g., 0.3% on Uniswap v2) are accrued by the pool and belong to LPs.
• Central Limit Order Books (CLOBs): Makers earn fees for providing resting limit orders, while takers pay them.
• The distribution is typically pro-rata based on an LP's share of the pool.

A portion of fees is often directed to a protocol treasury or used to build Protocol-Owned Liquidity (POL). This capital is managed by governance for long-term sustainability.

• Treasury Funding: Fees fund development, grants, and insurance funds (e.g., MakerDAO's surplus buffer).
• POL Creation: Fees are used to provide liquidity in the protocol's own pools, reducing reliance on external incentive programs and generating more fee revenue for the treasury.
• This turns the protocol into its own capital-efficient market maker.

A sophisticated model pioneered by Curve Finance, where users lock their governance tokens to receive veTokens (e.g., veCRV). This grants:

• Boosted Rewards: Higher share of protocol fees and liquidity mining rewards.
• Voting Power: Influence over which liquidity pools receive token emissions (gauge weights).
• This creates a long-term alignment by tying maximum economic benefit to long-duration locks, reducing sell pressure and stabilizing the token.

The mechanism that distributes real yield—revenue generated from actual protocol usage—as opposed to inflationary token emissions. A fee switch is a governance-controlled parameter that activates or redirects this distribution.

• Activation: Governance can vote to turn on fee collection for the treasury or stakers (e.g., Uniswap governance can activate a 0.05% fee switch).
• Sustainability: This shifts the token's value accrual from speculative emissions to cash-flow-based fundamentals.
• It represents a protocol's transition from growth subsidies to a sustainable business model.

A model where users lock or stake a protocol's native token to receive a direct pro-rata share of protocol fees. This creates a direct alignment between network usage and tokenholder rewards.

• Mechanism: Fees are collected into a pool and distributed periodically (e.g., daily, per block) to stakers.
• Example: SushiSwap's xSUSHI model, where stakers receive a portion of all trading fees collected by the protocol.

The foundational model in Automated Market Makers (AMMs), where fees from trades are distributed directly to the users who provided the liquidity for that trading pair.

• Mechanism: A percentage (e.g., 0.01% to 0.3%) of every swap is added to the liquidity pool, accruing to LPs proportionally to their share.
• Purpose: Incentivizes capital provision, which is essential for low-slippage trading. This is the primary revenue model for Uniswap and Curve LPs.

A deflationary model where a protocol uses its revenue to purchase its own token from the open market and permanently destroy (burn) it.

• Mechanism: Fees are converted to the native token via a market buy, then sent to a burn address, reducing total supply.
• Economic Effect: Increases scarcity, potentially benefiting all remaining token holders through price appreciation. Used by exchanges like Binance (BNB) and protocols like PancakeSwap.

A model where protocol fees are directed to a DAO treasury or community-controlled vault, which then allocates funds via governance for grants, development, or strategic asset acquisition.

• Mechanism: Fees accrue in a multi-signature wallet or smart contract (e.g., Gnosis Safe).
• Governance: Token holders vote on proposals for treasury expenditure. This model emphasizes long-term sustainability and is central to DAO operations like Uniswap and Compound.

A sophisticated model pioneered by Curve Finance, where users lock tokens to receive veTokens (e.g., veCRV), which grant both fee revenue and governance power.

• Key Features:
  • Fee Sharing: veToken holders receive a portion of protocol trading fees.
  • Vote-Locking: Voting power and rewards are proportional to lock duration, incentivizing long-term alignment.
  • Gauge Weights: Holders direct liquidity mining emissions, influencing capital allocation.

A model where the token supply automatically adjusts (rebases) to distribute fees, increasing each holder's token balance while keeping their percentage share of the network constant.

• Mechanism: Protocol revenue buys and adds tokens to a staking contract, causing the staking APY. The token supply expands, and stakers' balances increase proportionally.
• Example: Olympus DAO's original (3,3) staking mechanism, where stakers received rebases funded by treasury bond sales.

A percentage charged on every token trade executed on a decentralized exchange (DEX). This is the most common fee source for DeFi protocols.

• Mechanism: Typically 0.01% to 1% of the trade value, taken from the input or output amount.
• Examples: Uniswap v3 uses a tiered fee structure (0.01%, 0.05%, 0.30%, 1%). Curve Finance often charges 0.04% for stablecoin pools.
• Purpose: Compensates liquidity providers and funds protocol treasury.

Fees generated from the spread between interest paid by borrowers and interest distributed to lenders on money market protocols.

• Mechanism: A portion of the interest paid (the interest rate spread) is retained by the protocol.
• Examples: Aave and Compound take a reserve factor (e.g., 10-20% of interest) from borrowing markets.
• Purpose: Builds a protocol-controlled reserve to cover bad debt and fund development.

Fees applied when a borrower's collateralized position is liquidated for falling below the required health factor.

• Mechanism: A liquidation bonus (or penalty) is added to the collateral sold, with a portion going to the protocol.
• Examples: On Aave, liquidators receive a discount on the collateral, and a portion of this discount may fund the protocol treasury.
• Purpose: Incentivizes liquidators to maintain system solvency and generates protocol revenue.

Fees charged for creating (minting) or destroying (burning) synthetic assets, stablecoins, or NFTs.

• Mechanism: A flat fee or percentage is taken upon minting a new asset (e.g., a stablecoin) or burning it to reclaim collateral.
• Examples: Synthetix charges a minting fee on sUSD creation. Liquity charges a borrowing fee when minting LUSD.
• Purpose: Discourages excessive minting/burning cycles and accrues value to stakers or the treasury.

Fees paid by users to have their transactions included and prioritized in a block, often captured by the base-layer protocol or sequencer.

• Mechanism: Includes base fees (burned) and priority fees (tips to validators). In L2s, sequencers may capture this value.
• Examples: Ethereum's EIP-1559 base fee is burned, while priority fees go to validators. Optimism's sequencer currently captures MEV and gas fees.
• Purpose: Compensates network validators/sequencers and can be redistributed to token holders or the treasury.

Fees required to submit a new governance proposal to a protocol's DAO, acting as a spam prevention mechanism.

• Mechanism: A proposal submission fee (often in the protocol's native token) is charged and typically sent to the treasury or burned.
• Examples: Uniswap requires 0.25% of total UNI supply (delegated) to submit a proposal. Compound requires 65,000 COMP to propose.
• Purpose: Ensures proposal seriousness; the collected fees fund protocol operations.

A hybrid model where a base fee is algorithmically burned (destroyed) with each transaction, creating deflationary pressure, while an optional priority fee (tip) is paid directly to the block proposer. This mechanism, pioneered by Ethereum, aims to make transaction fee markets more predictable and the native asset more scarce.

• Example: Ethereum's London Hard Fork.
• Key Feature: Fee burning reduces net issuance, acting as a form of value accrual to all token holders.

The most common mechanism in Proof-of-Stake (PoS) networks, where all or a portion of transaction fees are distributed to the validators or delegators who secure the network. This directly incentivizes honest participation and capital commitment.

• Examples: Cosmos, Avalanche, Polygon PoS.
• Distribution: Often proportional to the stake or voting power of each validator.
• Purpose: Aligns economic rewards with network security.

Fees are directed to a decentralized protocol treasury or used to build protocol-owned liquidity (POL). The treasury funds future development, grants, and security, while POL (e.g., in liquidity pools) generates yield and reduces reliance on external liquidity providers.

• Examples: Olympus DAO (treasury & POL), Uniswap (fee switch to treasury proposal).
• Goal: Creates a sustainable, self-funding ecosystem controlled by governance.

In decentralized exchanges (DEXs) and lending protocols, fees generated by the platform are distributed to the users who provide liquidity. This is the core incentive mechanism for bootstrapping deep liquidity pools.

• Examples: Uniswap V2/V3, Curve, Aave.
• Mechanism: LPs earn a share of trading fees proportional to their contribution to the pool.
• Variant: Some protocols use fee rebates or staking rewards for LP token holders.

Protocols automatically redistribute a portion of collected fees to users who stake or hold the native token. This creates a direct yield mechanism and encourages long-term holding.

• Examples: GMX (esGMX stakers share protocol fees), Synthetix (staking rewards from fees).
• Model: Often implemented via a staking vault where fees are converted and distributed to stakers.
• Effect: Transforms the token into a yield-bearing asset backed by protocol revenue.

The protocol uses its revenue (fees) to buy back its native token from the open market and then burn (destroy) it. This reduces the circulating supply, aiming to increase the token's scarcity and price, benefiting all remaining holders.

• Examples: Binance Coin (BNB) quarterly burns, PancakeSwap's CAKE burns.
• Mechanism: Requires the protocol to generate real, verifiable revenue to fund the buybacks.
• Outcome: A deflationary model that links protocol success to token value.

A core choice is whether to burn fees (reducing supply) or redistribute them to validators/stakers. Burning acts as a deflationary mechanism, while redistribution provides a direct economic incentive for network security. Ethereum's EIP-1559 famously burns a base fee, whereas proof-of-stake networks like Cosmos distribute fees to validators and delegators.

To ensure transaction inclusion, users can pay a priority fee (tip) on top of any base fee. This creates a competitive auction for block space. Design considerations include:

• Fee estimation: How wallets predict optimal tips.
• MEV integration: How tips interact with Maximal Extractable Value strategies from searchers.
• Distribution: Whether tips go solely to the block proposer or are shared with the validator set.

PBS is a design pattern that separates the roles of block building (selecting and ordering transactions) from block proposing (signing the header). This impacts fee flow:

• Builders compete to create revenue-maximizing blocks, often capturing MEV.
• Proposers (validators) simply choose the most profitable block header.
• Fees and MEV are paid from the builder to the proposer via a trusted relay, aiming to decentralize profit and reduce validator centralization risks.

In proof-of-stake networks, validator rewards are a mix of block rewards (new issuance) and transaction fees. The fee portion's design affects security:

• High fee reliance: Makes rewards volatile, tied to network usage.
• Inflation subsidy: Provides more predictable rewards but increases supply.
• Slashing risks: Validators may prioritize fee-maximizing strategies over network health. The balance between these sources is a key economic parameter.

Mechanisms that allow a third party to pay fees for a user, enabling smoother user experiences. Key models include:

• Sponsored Transactions: A dapp or wallet pays the network fees for its users.
• Paymasters: Smart contracts that can pay fees in any token, abstracting away the native gas token (e.g., ERC-4337 Account Abstraction).
• Relayers: Off-chain services that submit and pay for meta-transactions. These require secure subsidy models and anti-spam controls.

Some protocols allocate a portion of transaction fees to a community treasury or governance-controlled fund. This turns fees into a sustainable revenue source for protocol development and grants. Considerations include:

• Percentage split: What share goes to treasury vs. validators?
• Governance overhead: Requires robust DAO structures to manage funds.
• Transparency: Fee flows must be verifiable on-chain. This model is common in Decentralized Autonomous Organizations (DAOs) like Curve.

A priority fee, or tip, is an optional fee paid by a user on top of the base transaction fee to incentivize a validator or block builder to include their transaction more quickly. This creates a competitive market for block space.

• Purpose: Reduces transaction latency by outbidding other pending transactions.
• Mechanism: Often implemented via EIP-1559 on Ethereum, where the tip is paid directly to the block proposer, separate from the base fee that is burned.

MEV is the maximum value that can be extracted from block production beyond standard block rewards and gas fees, often through transaction reordering, insertion, or censorship. Its distribution is a critical component of modern fee mechanisms.

• Sources: Includes arbitrage, liquidations, and frontrunning opportunities.
• Distribution: Protocols like MEV-Boost on Ethereum use auctions (PBS) to distribute a portion of MEV rewards to validators and stakers, aiming to democratize access.

Fee burning is a deflationary mechanism where a portion of transaction fees is permanently removed from circulation. In Ethereum's EIP-1559, the base fee for each block is burned.

• Purpose: Creates a predictable fee market and reduces net token supply.
• Distribution Impact: Only the priority fee is distributed to validators, fundamentally changing the validator reward structure from a simple issuance model.

Staking rewards are the incentives distributed to participants who lock (stake) their tokens to secure a Proof-of-Stake (PoS) network. They are a primary form of fee distribution.

• Composition: Typically consist of new token issuance (inflation) and a share of transaction fees.
• Mechanism: Rewards are distributed proportionally to the amount staked and the validator's performance (uptime, slashing history).

A protocol treasury is a smart contract or on-chain fund that receives a designated portion of network fees or newly minted tokens, governed by a DAO or core development team.

• Purpose: Funds long-term development, grants, ecosystem incentives, and insurance pools.
• Examples: Compound Treasury accrues a portion of interest, and Uniswap governance can vote to enable a protocol fee switch to direct fees to its treasury.

A block reward is the fixed amount of newly minted cryptocurrency awarded to the validator or miner who successfully produces a new block. It is the foundational incentive in consensus mechanisms.

• Proof-of-Work: The sole reward for miners (e.g., Bitcoin).
• Proof-of-Stake: Often combined with transaction fee distribution. In many PoS systems, the block reward diminishes over time, increasing the relative importance of fee distribution.