Token Taxonomy

The core of a taxonomy is categorizing tokens by their primary utility or purpose. Key categories include:

• Payment Tokens: Used as a medium of exchange (e.g., Bitcoin, stablecoins).
• Utility Tokens: Provide access to a specific product or service within a protocol (e.g., Filecoin for storage).
• Security Tokens: Represent ownership or a financial claim, like equity or debt.
• Governance Tokens: Confer voting rights on protocol decisions (e.g., UNI, MKR).

This layer defines the on-chain mechanics and standards that govern a token's behavior. It specifies:

• Token Standards: The smart contract blueprint, such as ERC-20 for fungibility, ERC-721 for non-fungible tokens (NFTs), or ERC-1155 for semi-fungible assets.
• Minting & Burning Rules: The logic for creating and destroying token supply.
• Ownership & Transfer Controls: How ownership is proven and if transfers can be restricted.

A taxonomy explicitly codifies the economic and legal entitlements conferred by holding a token. This clarifies what a holder is actually buying. Rights can include:

• Economic Rights: To profits, fees, or staking rewards.
• Governance Rights: To vote on proposals or delegate votes.
• Access Rights: To use a network's resources or services.
• Obligations: Such as slashing conditions in proof-of-stake systems.

A mature framework maps token classifications to existing legal and regulatory constructs. This is critical for compliance and reduces legal uncertainty. It answers questions like:

• Does the token constitute a security under the Howey Test (US) or MiCA (EU)?
• Is it treated as property, a commodity, or a payment token?
• What are the tax implications (e.g., income vs. capital gains) for holders?

A well-defined taxonomy enables cross-chain and cross-protocol functionality. By having clear, machine-readable standards, tokens can be seamlessly integrated into:

• Decentralized Exchanges (DEXs) and lending protocols.
• Multi-chain bridges for asset transfers.
• Aggregators and wallets that need to understand an asset's properties to display it correctly and enable interactions.

Fungible tokens are identical and interchangeable, with each unit holding equal value, making them ideal for currencies and utility tokens. The ERC-20 standard on Ethereum defines a common interface for these tokens, ensuring compatibility across wallets, exchanges, and smart contracts. Key functions include transfer() and approve().

• Examples: Stablecoins (USDC, DAI), governance tokens (UNI, AAVE).
• Core Property: Divisibility and uniform value.

Non-Fungible Tokens (NFTs) represent unique digital assets with distinct identifiers and metadata, enabling verifiable ownership of individual items. ERC-721 is the standard for unique assets, while ERC-1155 allows for semi-fungible batches within a single contract.

• Examples: Digital art (CryptoPunks), in-game items, real-world asset deeds.
• Core Property: Uniqueness and non-interchangeability.

This classification is based on legal and functional purpose, not technical code. A security token represents an investment contract or ownership stake, subject to securities regulations. A utility token provides access to a product or service within a specific network.

• Security Token Example: Tokenized equity or profit-sharing rights.
• Utility Token Example: Filecoin (FIL) for decentralized storage access.
• Key Differentiator: The expectation of profit derived from the efforts of others (Howey Test).

Governance tokens confer voting rights within a decentralized autonomous organization (DAO) or protocol, allowing holders to influence key decisions. These are typically fungible tokens (ERC-20) with added governance functionality.

• Primary Function: Proposal creation, voting on treasury spending, protocol parameter changes.
• Examples: Maker (MKR), Compound (COMP), Uniswap (UNI).
• Mechanism: Often uses a snapshot of token balances for off-chain voting, with on-chain execution.

Stablecoins are tokens designed to maintain a stable value, typically pegged to a fiat currency like the US Dollar. They are categorized by their collateral mechanism:

• Fiat-Collateralized: Backed by reserves (e.g., USDC, USDT).
• Crypto-Collateralized: Over-collateralized with crypto assets (e.g., DAI).
• Algorithmic: Use smart contract logic to control supply, without direct collateral.

Asset-Backed Tokens extend this concept to real-world assets like gold (PAXG) or real estate.

These are token representations of an asset native to another blockchain, created through a bridge. They are a critical part of the multi-chain ecosystem but introduce unique taxonomy challenges.

• Wrapped Tokens: A 1:1 representation (e.g., Wrapped Bitcoin - WBTC on Ethereum).
• Canonical vs. Non-Canonical: A canonical bridge is the official, protocol-endorsed minting mechanism.
• Risk Profile: Relies on the security and trust assumptions of the bridging protocol, distinct from the native asset's security.

The Howey Test is the primary U.S. legal framework for determining if an asset is a security. A token is likely a security if it involves:

• An investment of money
• In a common enterprise
• With an expectation of profits
• Derived from the efforts of others

Security tokens are subject to strict SEC regulations (e.g., Regulation D, Regulation A+). Projects must implement KYC/AML checks, restrict transfers, and often use permissioned blockchains or specialized token standards like ERC-1400.

A utility token provides access to a current or future product/service on a network, not an investment. Key compliance focuses on ensuring the token's primary purpose is consumptive, not speculative. Risks include:

• Pre-functional launch: Selling tokens before the network is usable can trigger securities laws.
• Secondary market speculation: Even with utility, excessive trading can attract regulatory scrutiny.
• Documentation clarity: Whitepapers and terms must accurately describe utility, avoiding promises of profit.

Governance tokens confer voting rights in a decentralized autonomous organization (DAO). Their compliance status is nuanced, balancing utility (voting) with investment-like characteristics. Critical security considerations:

• Vote manipulation: Attackers can borrow or buy tokens to pass malicious proposals (governance attacks).
• Legal liability: DAO members may be deemed general partners, creating joint liability.
• Sybil resistance: Systems must prevent one entity from creating multiple identities to sway votes.

Stablecoins are categorized by their backing mechanism, each with distinct risks:

• Fiat-collateralized (e.g., USDC): Subject to money transmitter laws, requiring regular audits and banking partnerships. Custody of reserves is a key risk.
• Crypto-collateralized (e.g., DAI): Face liquidation risk during volatility; require over-collateralization and robust oracle security.
• Algorithmic (non-collateralized): Highly scrutinized for resembling securities and carrying de-peg risk, as seen in the UST collapse. Most jurisdictions are developing specific stablecoin legislation.

While many Non-Fungible Tokens (NFTs) are collectibles, certain types raise compliance issues:

• Fractionalized NFTs (F-NFTs): Dividing ownership of an NFT into fungible pieces can create a security if marketed as an investment.
• Royalty-bearing NFTs: Tokens that promise future revenue streams may be deemed investment contracts.
• Asset-backed NFTs: Representing real-world assets (real estate, equity) subjects them to the existing regulations of the underlying asset class. Security depends on the legal enforceability of the claim.

The token's smart contract standard directly impacts security and compliance capabilities:

• ERC-20: The fungible token standard lacks native compliance features, requiring separate sanctioned address lists or proxy contracts for upgrades.
• ERC-1400/1404: Security token standards with built-in transfer restrictions, force transfer capabilities, and document attachment.
• ERC-721/1155: NFT standards; compliance is managed at the marketplace or contract level via allowlists and minting controls. Choosing the wrong standard can make regulatory compliance technically impossible.

A fungible token is a digital asset where each unit is identical and interchangeable, like traditional currency. This is the standard for cryptocurrencies and utility tokens.

• Key Standard: Most commonly implemented using the ERC-20 standard on Ethereum.
• Examples: ETH, USDC, UNI.
• Use Cases: Medium of exchange, governance, staking, and representing uniform value.

A non-fungible token (NFT) is a unique, indivisible cryptographic asset that represents ownership of a specific item or piece of content, verified on a blockchain.

• Key Standard: Most commonly implemented using the ERC-721 or ERC-1155 standards.
• Examples: Digital art (e.g., CryptoPunks), collectibles, in-game items, and real-world asset deeds.
• Core Property: Each token has a distinct Token ID and metadata, making it non-interchangeable.

A security token is a digital representation of a traditional financial asset, such as equity, debt, or a fund interest, and is subject to federal securities regulations.

• Key Characteristic: Derives its value from an external, tradable asset and provides an expectation of profit from the efforts of others.
• Standards: Often use ERC-1400 or other security-specific token standards.
• Purpose: Enables fractional ownership, automated compliance, and 24/7 trading of real-world assets.

A utility token provides access to a specific product, service, or functionality within a decentralized network or application, and is not primarily designed as an investment.

• Primary Use: Grants holders the right to use a platform's features, pay for services, or participate in its ecosystem.
• Examples: FIL for decentralized storage on Filecoin, LINK for oracle services on Chainlink.
• Regulatory Distinction: Often distinguished from security tokens by their consumptive, rather than investment, purpose.

A governance token is a fungible token that grants holders voting rights to influence the development, parameters, and treasury management of a decentralized protocol or DAO.

• Core Function: Enables on-chain governance through proposal submission and voting.
• Examples: UNI (Uniswap), AAVE (Aave), MKR (MakerDAO).
• Mechanisms: Voting power is typically proportional to the amount of tokens staked or delegated.

A stablecoin is a type of cryptocurrency designed to maintain a stable value by being pegged to a reserve asset, such as a fiat currency (e.g., USD), a commodity, or another cryptocurrency.

• Collateral Types:
  • Fiat-Collateralized: Backed 1:1 by bank reserves (e.g., USDC, USDT).
  • Crypto-Collateralized: Overcollateralized by other crypto assets (e.g., DAI).
  • Algorithmic: Uses algorithms and smart contracts to control supply.
• Primary Use: Serves as a stable medium of exchange and store of value within volatile crypto markets.