A security token represents ownership in an asset and falls under securities law. That is the key difference from a utility token. A utility token grants access to a service. A security token is an investment contract. It passes the Howey Test, which the US Supreme Court established in 1946. If you invest money, in a common enterprise, with an expectation of profit from the efforts of others, you have a security. Most token sales in 2017 failed that test, which is why the SEC came after them.

Security tokens can represent equity, debt, real estate, or fund interests. They trade on regulated platforms and require compliance with KYC, AML, and investor accreditation rules. The promise is liquidity for traditionally illiquid assets. A building in New York could be tokenized and traded in fractions. The reality is more complicated. Regulatory overhead is heavy. Secondary trading is restricted. The market has grown slowly compared to utility tokens and NFTs. Institutions are interested, but they move carefully. Security tokens are not a loophole. They are traditional securities with a new settlement layer.

Security token characteristics

• Investment contract — passes the Howey Test
• Regulated — subject to securities laws
• Asset-backed — represents equity, debt, or real assets
• Compliance-heavy — KYC, AML, accreditation required

If a token promises profit from someone else's work, assume it is a security until a lawyer says otherwise.