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Is Crypto a Security? Part II: Utility Tokens
The opinion editorial below was written by Alex Forehand and Michael Handelsman for Kelman.Law.
Since the early years of the digital-asset industry, the term “utility token” has been used as a kind of shorthand for “not a security.” The idea was intuitive: if a token provides access to software, services, governance rights, or network functionality, then the reasonable expectation of purchasers is consumption rather than speculation, and should therefore fall outside the scope of the federal securities laws.
However, the SEC has consistently rejected the notion that utility alone immunizes a distribution from Howey, having brought cases against the utility tokens LBRY and UNI. Instead, the SEC and courts alike apply a holistic, fact-intensive analysis that looks beyond the token’s technical purpose.
The result is a persistent tension between the marketing narrative of utility and the legal and economic reality of how these tokens are sold. This Part examines why “utility token” is not a safe harbor, how courts actually weigh functionality in practice, and which factors most often determine whether a supposedly “use-based” token sale still qualifies as an investment contract.
Utility Is Not a Dispositive Factor
The core misconception is that a token with functional value—access to a protocol, governance participation, staking rights, payments within an app, or other use cases—falls outside the securities regime. Courts have repeatedly made clear that this is incorrect.
Under Howey, the existence of utility is a relevant fact, but it does not override the broader economic reality of a transaction. A token can be a component of a functioning network and still be sold in a manner that creates a securities contract.
This is because the legal focus is not the token as a digital object, but the circumstances of its distribution. If the manner of the sale conveys the message that purchasers are acquiring something with an expectation for profit—especially profit tied to the issuer’s efforts—courts find that the Howey test is satisfied irrespective of utility.
However, the idea that the token itself is not necessarily a security is promising and appears to be supported by the current SEC, as Commissioner Paul Atkins recently distinguished the token, which is not necessarily a security, from the investment contract, which is a security, focusing on the offering itself rather than the underlying asset.
Timing and Network Functionality at LaunchOne of the most influential factors in utility-token cases is when the token is sold relative to the network’s development. If tokens are offered before the protocol is live, before key features are operational, or before users can meaningfully interact with the ecosystem, courts typically interpret the sale as requiring purchasers to rely on the issuer’s future work. That future work is precisely what the Howey analysis refers to as the entrepreneurial or managerial efforts of others.
Also read: Is Crypto a Security? (Part I) The Howey Test
This is why early ICOs, presales, and SAFT-based distributions often face heightened scrutiny. Purchasers in these contexts are not using the token for its utility; they are waiting for the issuer to build something that will generate that utility—and potentially increase the token’s value. This reliance on future development is consistently treated as a hallmark of an investment contract.
Issuer Control and Managerial Efforts
At the heart of the utility-token debate is the question of who actually drives value. Courts routinely examine whether future ecosystem growth depends on identifiable managerial or entrepreneurial efforts by the issuer, founding team, or a central development entity.
If purchasers reasonably rely on those individuals or entities to deliver upgrades, integrations, roadmap milestones, partnerships, or stability mechanisms, the transaction typically satisfies Howey’s “efforts of others” prong—regardless of the token’s functional design.
Governance tokens, however, add a layer of complexity to this analysis. Their very premise is that token holders participate in directing the project, which creates a colorable argument that purchasers are relying on their own efforts—collective governance—rather than on a centralized team.
The SEC, however, has refused to treat this argument as dispositive. Instead, they apply the court’s same holistic, economic-reality test: How meaningful is the governance? Do token holders actually control development, treasury decisions, or core parameters, or is governance limited, cosmetic, or subject to de facto issuer control?
And even where governance is substantial, courts still ask whether the token was marketed with profit-focused messaging or whether purchasers nonetheless expected value growth tied to a core team’s continued involvement.
In short, governance features can be a relevant decentralization factor, but they are not a safe harbor and must be weighed alongside all other circumstances.
A practical heuristic is the so-called “Bahamas test”: if the issuer’s team disappeared tomorrow—“packed up and moved to the Bahamas”—would the project continue functioning and would the token still hold its value?
If the answer is no, that strongly suggests purchasers are relying on the issuer’s ongoing managerial efforts, reinforcing Howey’s fourth prong. If the answer is yes, that supports decentralization, though even that is not dispositive without examining the broader transaction context.
Ultimately, this inquiry remains highly fact-specific and tied to the moment of the transaction. A network may later decentralize to the point where purchasers no longer depend on issuer efforts, but the legal question hinges on whether such reliance existed when the tokens were sold. Courts have not drawn a clear line for when decentralization becomes sufficient, leaving this as one of the most persistent and unresolved uncertainties in U.S. digital-asset law.
The Practical Bottom Line
The modern case law makes one point unmistakably clear: utility is not a safe harbor. A token may be thoughtfully engineered, widely used, and integral to a functioning network—and still be sold in a way that constitutes an investment contract.
What matters to courts is the full economic context: how the token is sold, what is promised, how the issuer behaves, and whether purchasers are relying on the efforts of others to generate value.
Utility will always be relevant. It may even be a persuasive factor in certain contexts, especially where the token’s primary purpose is genuinely consumptive and the ecosystem is already decentralized. But in 2025, no court has treated utility as dispositive. The myth persists in industry marketing, but the legal reality remains unchanged: utility does not erase the securities analysis.
At Kelman PLLC, we have extensive experience navigating the practical nuances of securities laws, and Howey in particular. We continue to monitor developments in crypto regulation and are available to advise clients navigating this evolving legal landscape. For more information or to schedule a consultation, please contact us here.
