What are soulbound tokens (SBTs) and how do they work?

By creating an alternative financial system with extraordinary flexibility and innovation in less than ten years, Web3 has astounded the globe. Economic and cryptographic primitives such as smart contracts and consensus mechanisms have helped to create an open-source system to conduct and authorize financial transactions.

However, the decentralized finance (DeFi) ecosystem cannot support straightforward contracts like an apartment lease because it lacks a native Web3 identity. This article aims to demonstrate how even modest advances toward social identity representation with soulbound tokens could circumvent these constraints and reroute Web3 to an authentic, more transformational path. 

What are soulbound tokens (SBTs)?

Projects and use cases focusing on social identities and communities rather than just money are required for blockchains to be at the core of collaborative and fascinating ecosystems. To address this issue, Vitalik Buterin, Ethereum’s co-founder, along with Puja Ohlhaver, strategy counsel at FlashBots, and E. Glen Weyl, political economist and social technologist, introduced the concept of soulbound tokens in a paper titled “Decentralized Society: Finding Web3’s Soul.”

According to the authors, soulbound tokens provide the basis for a decentralized society (DeSoc), which is a co-determined sociality in which communities and souls come together bottom-up as emergent features of one another to co-create plural network goods and bits of intelligence at various scales. A soulbound token is a publicly verifiable and non-transferable nonfungible token (NFT) that represents an individual’s credentials, affiliations and commitments. So, what is a non-transferable token?

Non-transferable tokens refer to NFTs that can help track reputation and are added to addresses but cannot be sold. But what does “Souls” refer to in soulbound NFTs? The wallets or accounts to which SBTs or non-transferable tokens are permanently bound are called Souls. For instance, a Soul can represent an individual’s employment history, which can be self-certified similar to information in one’s curriculum vitae.  

But, when SBTs possessed by one Soul can be issued — or attested — by other Souls who are counterparties (e.g., individuals or organizations) to these relationships, that is when the mechanism’s true power is revealed. For instance, the Ethereum Foundation might be a Soul that awards SBTs to those who attended an Ethereum conference. According to the paper, the concept of “plural network groups” refers to interactions and communications within the networks and are the most critical drivers of economic growth.

How do soulbound tokens work?

Soulbound tokens may assist Web3 networks in using non-transferable tokens as reputation indicators rather than relying upon money-centric frameworks to achieve the same. For instance, the lender currently verifies the borrower’s bank account balances, credit scores and repayment history to offer an undercollateralized loan. 

However, with SBTs representing one’s credentials, reputation will act as collateral to get an undercollateralized loan. Now, if you recall the fundamental concept of NFTs, they represent property or assets with some monetary value. But, how to verify someone’s reputation in a blockchain-based trustless system?

To understand this concept and the working of SBTs in the Web3 space, let’s take an example of a decentralized autonomous organization’s (DAO) voting system. Most DAO governance models assign voting power based on the number of tokens held by a member. 

Nonetheless, DAOs issuing SBTs could prioritize reputation over tokens owned by a member. The reputation can be verified via users’ interactions with the community. For instance, trophies earned from Kusama’s Governance Rewards program for every on-chain referendum member votes in can be used to represent their reputation. 

That said, trophies serve as a visual representation of a member’s on-chain activity in Kusama and Polkadot DAOs, which may now be sufficient security for an undercollateralized loan. Additionally, a reputation-based voting system may defend DAOs against Sybil attacks.

A Sybil attack involves one or more bad actors taking control of the majority of the governance tokens to redirect the project’s direction in their favor. Soulbound tokens being publicly verifiable, can protect DAOs from falling into the trap of bad actors. For instance, souls holding respectable SBTs may be assigned majority voting power to protect the integrity of decentralized autonomous organizations.

However, do soulbound tokens exist? There are a few examples of how soulbound tokens can be utilized in the Web3 world, which is described in the below section. But. when will soulbound tokens be available? Binance Account Bound (BAB) will be the first SBT issued on the BNB chain by Binance. The BAB token will not have any monetary value and cannot be transferred.

It will serve as a digital verification solution for Binance customers that have completed Know Your Customer (KYC) requirements. Additionally, third-party protocols can utilize BAB SBTs to facilitate DAO governance voting and airdrop, among other use cases. 

How can soulbound tokens be used?

In everyday life, there are many use cases of SBTs in Web3, as explained below:

NFT ownership

Artists can get rid of dishonest individuals selling NFT collections under the guise of famous artists by linking soulbound tokens to their artistic profile. SBTs would allow buyers to trace the social provenance, whereas blockchain inclusion enables them to track when a specific work was created. 

For instance, a tradeable NFT could be issued by an artist from their Soul to help buyers recognize an artist’s work by the number of soulbound tokens it contains, establishing the legitimacy of the nonfungible token. As a result, Souls would develop a publicly-verified, on-chain method for staking and develop a reputation around the provenance and rarity of an item.

Job vacancies

Soulbound tokens representing a candidate’s educational credentials like degree and professional certificates and previous work history can be used as proof of skill to meet the human resource needs of an organization.

Gaming

A user’s Web3 activity can be tracked using SBTs, which can be converted into non-transferable reputation tokens inside game avatars that can only be leveled up in this method. This means being a good Web3 citizen: You can level up instead of playing the game, giving your avatar non-transferable skills and experience.

Verification of borrowers’ credit history

Traditional credit reports may also be represented by SBTs, giving lenders access to a borrower’s whole credit profile. And, the SBT may be replaced by payment documentation or deleted once the loan has been repaid. As a result, people cannot hide their ongoing obligations.

Souldrops

Web3 has been mainly dependent on token sales or airdrops to entice new communities, but both methods provide mediocre results. As an alternative, Souldrops can be issued using SBTs, for instance, to developers with 5 out of the last 10 conference attendance soulbound tokens serving as a proof of attendance protocol (POAP). People can use POAPs, a special NFT, to demonstrate that they attended a live or recorded event.

What are the benefits of soulbound tokens?

One of the advantages of using soulbound tokens for credential verification purposes is that since information is permanently replicated on the blockchain, no one can falsify it. Moreover, any awards and certificates earned by an individual can be publicly verifiable via SBTs. Furthermore, since authenticity cannot be purchased through soulbound tokens, it fosters confidence among tokenholders and the general public.

Additionally, protocols will be able to check borrowers’ credit histories and evaluate their credit scores to determine how much they can borrow, thanks to soulbound NFTs. Moreover, SBTs restrict Web3 projects from becoming a cash bag by making digital representations non-tradable. That said, an individual cannot buy NFTs; instead, they need to put effort into earning them.

Are there any risks associated with soulbound tokens?

Along with lucrative advantages, soulbound tokens have some cons, too. For example, the current wallet mix may not be ideal for SBTs due to the lack of community recovery methods. As a result, community recovery wallets need a wide variety of soulbound tokens dispersed throughout several communities to recover lost Souls.

A solution to the above lies in a community recovery strategy, in which a Soul’s private keys can be obtained if consent by a qualified majority of one of the communities (that the Soul belongs to) is received..

However, some people or organizations might recognize interests that conflict with their own ideology, which could theoretically lead to harassment, violence or even trolling, indicating a privacy concern as an individual’s personal information is exposed.

Theoretically, SBT-based credit systems could lead to dystopian ecosystems (where freedom and independent thought is restricted) like China’s social credit system, where specific social groupings are automatically excluded owing to the presence of specific soulbound tokens.

SBTs vs. NFTs

Nonfungible tokens can be bought and sold via NFT marketplaces, whereas soulbound tokens are non-transferable NFTs because they’re bound to the Soul. A summary of the differences between SBTs and NFTs is listed in the table below:

Although NFTs cannot be altered or duplicated, they are easily transferable, which could be a problem if they are utilized by someone with access authorization without first being granted to a holder. Therefore, soulbound tokens are tied to a particular Soul address and can be verified via on-chain credentials, restricting anyone from modifying them.

The future of soulbound tokens

The concept of soulbound tokens, despite being interesting, is quite new and cannot replace the NFT ecosystem. Instead, it can serve as an alternative way of identity control, allowing DAOs, for instance, to better engage with their community members.

However, it remains to be seen if both SBTs and NFTs will co-exist until DeSoc becomes a reality in the Web3 space or if SBTs alone can serve as digital identity tokens in the decentralized world.