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What is a utility token?

What is a utility token?
Last Updated: September 29 2023

Let’s start with the definition of the word ‘utility’, stated as being “something useful or designed for use”. Utility tokens are simply that: cryptocurrency assets which are designed to serve a specific use case (or use cases). In most cases, utility tokens are built with a particular platform or program in mind. They are designed to allow the holder to perform a specific action, one that generally can’t be done without the ownership of a utility token. Where ‘normal’ cryptocurrency tokens represent a source of value, utility tokens can be viewed as more akin to a ticket, allowing you to access something you otherwise wouldn’t be able to.

What are common use cases of utility tokens?

There are currently several different use cases for utility tokens, a list that is sure to continue growing as developers find more ways to interact with them. For now, we’ll look into the most common use cases of utility tokens:

  • To engage in activities on a decentralized exchange (DEX), users may need a specific utility token that is native to that particular platform. As an example, a standardized amount of Stellar’s native token Lumen is required to be held at all times in order for uses to be able to engage with the platform.
  • Oftentimes, holding utility tokens grants some sort of benefit to the user - whether through additional rewards, discounts and more. An example of this was the recent $APE airdrop in return for holding a Bored Ape NFT (non-fungible token).
  • Utility tokens are also commonly used to reward supporters of their platform. A great example of this is Pancake Swap’s native token $CAKE. $CAKE holders are able to participate in a holders-only lottery, use it in exclusive yield farms, stake it in liquidity pools and more. All of this means that $CAKE holders have the opportunity to gain added value compared to non-$CAKE holders.
  • Governance is one other common use case of a utility token. As seen with Uniswap’s native token $UNI, utility tokens can be used to put the direction of a protocol in its community’s hands. $UNI holders are able to vote on governance proposals which dictate what Uniswap should or shouldn’t do.

How are utility tokens different from tokens like ETH?

The differentiation point between utility tokens and other tokens comes down to the intended purpose of the token in question. Utility tokens are created for their functionality, whereas assets like ETH or BTC are developed to be used as a currency and/or store of value. This being said, it is possible for a utility token to be used as currency, or a normal token to be used for utility.

Do utility tokens have different tax consequences?

Onto the next question, do utility tokens have different tax consequences than other cryptocurrency assets? The answer: not usually. Generally, utility tokens receive the same tax treatment as any other cryptocurrency asset in your region. There is the possibility that because of the intention to be used purely for functionality instead of in a profit-making undertaking that this could change, but there are not yet any special guidelines for utility tokens in most regions.

If you’re unsure of how transactions involving utility tokens should be handled for tax purposes, we recommend talking to a local tax professional to get some guidance.

How CryptoTaxCalculator can help

CryptoTaxCalculator gives you the ability to import crypto transaction data from a variety of sources, and then reconcile these transactions for tax purposes. Utility tokens are no exception - our software will auto-categorize transactions involving these where possible and apply the recommended tax calculations for your region.!

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Samara LeMerle

Strategy and Communications Manager

Samara has been working in the crypto industry for the last 3 years and is passionate about helping other crypto users learn about the tax implications of their trading activity.

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