Building Permissioned Tokens on Public Chains
by Mason Borda, CEO, TokenSoft
Institutions have traditionally been reluctant to associate with permissionless blockchains. When permissioned blockchains first entered the market, the primary selling point was that they could be restricted to an authorized set of users in addition to managing all of the information privately. While the stigma has generally subsided, the residue remains in the work we see being developed by institutions today. The recent DTCC whitepaper, “Guiding Principles for the Post-Trade Processing of Tokenized Securities,” is an indication that misconceptions around permissionless blockchain still exist today.
Before we get too far, let’s start with some broad generalities around permissionless or public vs. permissioned or private blockchains.
With the above comparison as a backdrop, it’s not surprising that large institutions, including banks and financial services firms, have been wary of public blockchains for reasons related to security, control, and compliance. If this general view were the only way that blockchain based assets could be handled, doing anything of value on a public chain would be concerning for companies that needed certainty around compliance and security. There are ways to solve this and here we’ll share tools we’re using at TokenSoft.
At TokenSoft, we use ERC-1404, an open standard, for our clients who are issuing digital securities or tokens and need to ensure restrictions are met after the tokens are trading in the market or on an exchange.
We specifically designed ERC-1404 for security tokens that carry complex compliance requirements. ERC-1404 supports enhanced compliance requirements, such as investor whitelisting and transfer restrictions. For example, token holders outside the U.S. can be prevented from transferring a token to a U.S. individual. See more about this type of example in our recent article. Whitelists set up by the administrator control restrictions such as this one.
We see the key benefits of ERC-1404 as the following:
Control the number of tokens minted for distribution and also allow flexibility for the administrator to issue more tokens in the future.
Create whitelists of individuals who are approved to buy/hold the tokens and segregated sublists, as needed, to support transfer restrictions (e.g., U.S. vs international).
Manage lock-ups as needed to ensure there are not transfers before allowed.
Process requirements or needs that come up post-issuance, such as adding or removing investors to the whitelists or creating additional whitelists for new restrictions.
Take confidence in the ability to remove restrictions in the future if transfers become open or unlimited.
ERC-1404 delivers a superior level of control to ensure you can adhere to regulations while minimizing the administrative burden. As the DTCC paper notes, the integration of public and private chains is not far off. With a custodian in the middle, there will be great power between leveraging the best of both worlds.