Fees & Yield Routing

Running a real-world asset protocol isn't free. Physical custody costs money. Insurance premiums must be paid. Audits, authentication, logistics, legal compliance—these are real expenses that traditional financial infrastructure has always passed to users through management fees, custody charges, and operational margins.

The question isn't whether these costs exist—they do, and they're non-negotiable. The question is: who pays, when do they pay, and how does the protocol ensure costs are covered without creating perverse incentives or extracting unfair rents?

Get this wrong and you end up with one of two failure modes. Either the protocol can't sustain operations (costs exceed revenue, issuers bail, collections become zombie funds), or it charges so much that users flee to cheaper alternatives (high fees kill composability and liquidity).

Get it right and you create a transparent, self-sustaining economic engine where costs are paid fairly, margins are explicit, and excess returns flow to participants who actually create value—liquidity providers, limit order participants, and long-term holders who support market quality.

This page explains how Rarity routes fees, covers costs, and distributes surplus. It's the canonical reference for understanding who pays what, why, and how the accounting actually works.

Key Mental Model

Think of each collection as having two separate ledgers: costs (custody, insurance, ops) that must be paid from collection-specific revenue, and protocol revenue (performance fees, trading margins, admin fees) that represents genuine profit. The protocol's job is to ensure costs never go unpaid (using dilution as the backstop) while keeping margins transparent and aligned with value creation.

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The taxonomy: costs vs. revenue

Every dollar that flows through the protocol falls into one of three buckets. Mixing them is the original sin of opaque fee structures.

Costs (must be paid, not profit)

These are pass-through expenses that the protocol pays to third parties or incurs to operate. They're not protocol revenue—they're the price of doing business with real-world assets.

Custody cost ($c_{\text{custody}}$): Physical storage, security, and insurance for underlying assets.

• Typical range: 0.40–0.70% per year of collection AUM
• Paid to professional custodians (Brinks, Malca-Amit, specialized vault operators)
• Varies by asset class: watches are cheaper than real estate, collectibles cheaper than large machinery
• Includes: secure storage, environmental controls, access logging, periodic verification

Insurance cost ($c_{\text{insurance}}$): Coverage against theft, damage, counterparty failure.

• Typical range: 0.25–0.50% per year of collection AUM
• Paid to insurance underwriters (Lloyd's of London, specialty RWA insurers)
• Varies by risk profile: authenticated luxury goods are cheaper than unverified items
• Includes: theft coverage, damage during custody, counterparty default, some fraud scenarios

Operational expenses ($c_{\text{ops}}$): Everything else required to run a collection.

• Authentication fees: verifying provenance and quality when assets enter
• Logistics: moving assets between custodians, shipping for physical delivery
• Legal and compliance: regulatory filings, legal opinions, ongoing compliance monitoring
• Audits: periodic verification that on-chain supply matches physical inventory
• Oracle infrastructure: maintaining mark-to-truth auction facilitation
• Smart contract monitoring: security surveillance, upgrade coordination

These costs are collection-specific. A $10M watch collection might pay$40k/year custody + $30k/year insurance +$20k/year ops = $90k/year total. A$100M real estate collection might pay $600k/year +$400k/year + $150k/year =$1.15M/year total. Scale matters, but so does asset class.

Critical principle: These are not negotiable or discretionary. If custody costs $40k, you pay$40k. The protocol doesn't mark it up 2× and pocket the difference. Any admin margin on top of pure costs is accounted for separately (see below).

Protocol revenue (the margins)

These are genuine profit sources that flow to the protocol treasury, pay for development, and ultimately distribute to governance participants or RARIUM token holders.

Bootstrapping fee: One-time fee taken from issuer's proceeds during initial Raredrop, covers setup risk and protocol coordination.

• Typical range: 0.5–2.0% of the primary raise amount
• Only charged once per collection during initial offering
• Taken from issuer's revenue, not added to buyer's price
• Covers: legal setup, vault onboarding, initial audits, attestation infrastructure
• Split: 50% to protocol treasury, 50% reimburses issuer for upfront costs

Example: $5M Raredrop (assets acquired for$5M, tokens sold at $5M acquisition price). With 1.0$50k):

• Buyers pay: $5.0M total (exactly the acquisition value)
• Gross proceeds to issuer: $5.0M
• Bootstrapping fee: $50k (1% of raise), split:
  • Protocol treasury: $25k (facilitating launch infrastructure)
  • Issuer reimbursement: $25k (offset upfront legal/custody setup)
• Net to issuer: $5.0M -$50k + $25k =$4.975M

The issuer nets $4.975M against$5M in assets, effectively paying a 0.5% one-time facilitation cost. Buyers pay exactly acquisition value with no markup.

Performance fee on minting surplus: Share of economic surplus generated when assets are acquired below pool price.

• Default: 20% of surplus pot
• Only applies when acquisitions create value (asset bought at $X, tokens sold into pool at$Y > X$)
• The other 80% goes to liquidity providers and collection treasury (to offset costs)

Example: Issuer acquires asset for $4,800, sells tokens into pool at$5,000 average. Surplus = $200. Protocol takes 20$40, the other $160 goes to LPs and collection pot.

AMM swap fee share: Portion of trading fees allocated to protocol treasury.

• Default allocation: 10–20% of swap fees (varies by collection liquidity and volatility)
• Remaining 80–90% split between LPs and collection cost pot
• Dynamic: high-volatility or low-liquidity pools may allocate more to protocol to compensate for facilitation risk

Lending spread: Difference between what borrowers pay and lenders receive.

• Typical spread: 0.5–2.0% (borrowers pay 8%, lenders receive 6.5%, protocol takes 1.5%)
• Covers: liquidation infrastructure, risk monitoring, oracle maintenance
• Dynamically tuned based on utilization and risk

Futures fees: Trading fees and funding rate margins on perpetual contracts.

• Trading fees: 0.05–0.15% per trade (taker pays)
• Funding margin: small cut of funding payments redirected to perpetuals insurance fund + protocol
• Covers: liquidation engine, position monitoring, settlement infrastructure

Admin AUM fee ($f_{\text{admin}}$): Explicit operational margin on top of pure costs.

• Typical range: 0.10–0.25% per year of collection AUM
• This is actual protocol revenue for facilitating the collection (not passing through to custodians/insurers)
• Covers: ongoing protocol development, risk monitoring, mark-to-truth facilitation, governance overhead
• Transparent and separately accounted from pure costs

Example: $10M collection with 0.15$15k/year to protocol treasury, distinct from the $70k/year paid to custodians and insurers.

The pot system: how all revenue is distributed

Every dollar the protocol collects flows into pots—fixed pools of money from specific sources during specific epochs (typically 24 hours). At epoch end, each pot is distributed to participants who contributed to protocol health, with small portions allocated to collection costs and protocol infrastructure.

This isn't a traditional fee structure where X% goes here and Y% goes there. It's a redistribution engine where productive activities generate dollars, and those dollars reward useful behavior. The protocol collects fees from real economic activities—swap fees, minting surplus, lending spread, futures trading—and distributes them via merit-based formulas.

Merit-based distribution: Each pot distributes dollars proportionally to merit earned during the epoch. Merit is earned by providing useful behavior: tight liquidity provision, resting limit orders near spot, fast responses to mark-to-truth recenters. The protocol also earns merit for maintaining infrastructure.

V1 implementation (global protocol merit ratio): Protocol merit is minted at a simple, fixed ratio to total user merit—approximately 20% protocol, 80% participants. Every pot that distributes to participants uses this same ratio. This keeps V1 implementation simple while ensuring protocol revenue covers development, security, and infrastructure costs.

Future versions (V2+): Protocol merit ratios could be set independently per pot or activity type, allowing governance to tune protocol compensation relative to the specific infrastructure costs for each revenue source (e.g., higher for lending/futures due to liquidation complexity, lower for stable pot basket management).

Core pots (per collection, per epoch):

Stable pot ($S_{\text{stable}}$): Net yield earned by djinUSD attached to this collection

• Source: Treasury bills (USDY), Aave lending, Maker DSR (4–5% gross APY)
• Distribution model: 100% distributed by merit after direct cost allocation
  • Collection cost pot: 5% (direct allocation for custody/insurance)
  • Remaining 95% distributed by merit (V1: 20% protocol merit, 80% user merit):
    • Protocol earns ~19% of total pot via merit (for basket management, rebalancing, infrastructure)
    • Participants earn ~76% of total pot via merit (split between LPs and limit order providers)
• Governance-adjustable: Protocol merit ratio, cost pot allocation, LP/LO split

Fee pot ($S_{\text{fees}}$): Swap fees from the CL AMM pool

• Source: Trading activity (0.30–0.80% per swap)
• Distribution model: 100% distributed by merit after direct cost allocation
  • Collection cost pot: 15% (direct allocation for custody/insurance)
  • Remaining 85% distributed by merit (V1: 20% protocol merit, 80% user merit):
    • Protocol earns ~17% of total pot via merit (for AMM infrastructure, mark-to-truth facilitation)
    • LPs earn ~68% of total pot via merit (distributed by in-range time and concentration)
• Governance-adjustable: Protocol merit ratio, cost pot allocation

Surplus pot ($S_{\text{surplus}}$): Premiums from minting below pool price

• Source: When assets acquired at $X are sold into pool at$Y > X$
• Distribution model: 100% distributed by merit after direct cost allocation
  • Collection cost pot: 35% (direct allocation for custody/insurance)
  • Remaining 65% distributed by merit (V1: 20% protocol merit, 80% user merit):
    • Protocol earns ~13% of total pot via merit (performance fee for facilitating acquisition)
    • LPs earn ~52% of total pot via merit (rewards LPs who provided the liquidity that enabled the sale)
• Governance-adjustable: Protocol merit ratio, cost pot allocation

Lending pot ($S_{\text{lending}}$): Spread between borrower and lender rates

• Source: Interest rate differential (borrowers pay 8%, lenders receive 6.5%, spread = 1.5%)
• Distribution model: Direct splits (no merit distribution—lenders are paid directly from borrower interest)
  • Protocol: 40% (for liquidation infrastructure, risk monitoring, oracle maintenance)
  • Lending insurance fund: 30% (covers potential liquidation shortfalls, product-specific risk)
  • Collection cost pot: 30% (direct allocation for custody/insurance)
• Note: This pot doesn't use merit-based distribution because lenders/borrowers are direct counterparties

Futures pot ($S_{\text{futures}}$): Trading fees and funding margins

• Source: Perpetual futures trading (0.05–0.15% per trade)
• Distribution model: Direct splits (no merit distribution—traders are direct counterparties)
  • Protocol: 50% (for liquidation engine, position monitoring, settlement infrastructure)
  • Futures insurance fund: 30% (isolated risk pool, socialized only among futures participants if exhausted)
  • Collection cost pot: 20% (direct allocation for custody/insurance)
• Note: This pot doesn't use merit-based distribution because futures are zero-sum counterparty trades

Recenter pot ($S_{\text{recenter}}$): Bounties for fast liquidity migration after mark-to-truth events

• Source: Protocol-funded bounty when auctions trigger RECENTER
• Distribution model: 100% distributed by recenter merit (no protocol or cost allocation)
  • All funds flow to participants who quickly move liquidity to new mark (see Yield Mechanisms for recenter merit formulas)
• This pot is a pure incentive mechanism; protocol doesn't earn merit here since it's funding the bounty

Key insight: By treating protocol compensation as merit-based rather than fixed percentages, the accounting is uniform: every pot distributes dollars proportionally to merit earned. The protocol earns merit for infrastructure work just as LPs earn merit for providing liquidity and limit order providers earn merit for resting orders near spot.

See Yield Mechanisms for complete merit formulas (user and protocol), worked examples, and detailed pot accounting.

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Per-collection accounting: how costs get paid

Every collection maintains its own cost budget and revenue streams. The protocol ensures costs are covered using a waterfall structure with dilution as the backstop.

The waterfall: revenue sources (in order)

Each epoch (typically 24 hours), the protocol computes total collection costs for that period:

$$C_{\text{total}} = (c_{\text{custody}} + c_{\text{insurance}} + f_{\text{admin}}) \times \text{AUM} + c_{\text{ops}}$$

Example: $10M collection with 0.50$20k/yr ops:

$$C_{\text{total}} = (0.0050 + 0.0035 + 0.0015) \times \$10M + \$20k = \$100k + \$20k = \$120k/\text{yr}$$ $$C_{\text{daily}} = \$120k / 365 = \$329/\text{day}$$

The protocol pays this from the collection cost pot, which accumulates funds from all productive activities each epoch:

1. Share of stable pot

If this epoch, $10M djinUSD attached to the collection earned$1,096 in gross yield (4% APY / 365 days), and after 10% protocol take for basket management, 5% goes to collection costs:

$$R_{\text{stable}} = 0.05 \times (1 - 0.10) \times \$1,096 = \$49$$

2. Share of fee pot

If the pool generated $1,753 in swap fees this epoch (from ~$440k daily volume at 0.40% fee), and 15% is allocated to collection costs:

$$R_{\text{fees}} = 0.15 \times \$1,753 = \$263$$

3. Share of surplus pot

If assets were acquired below pool price this epoch, creating $110 of surplus, and 35% goes to collection costs (after 20% protocol performance fee):

$$R_{\text{surplus}} = 0.35 \times (1 - 0.20) \times \$110 = \$31$$

4. Share of lending pot

If this collection's tokens are used as collateral generating $123 in daily spread, and 30% goes to collection costs:

$$R_{\text{lending}} = 0.30 \times \$123 = \$37$$

5. Share of futures pot

If futures trading on this collection generated $82 in fees this epoch, and 20% goes to collection costs:

$$R_{\text{futures}} = 0.20 \times \$82 = \$16$$

Total revenue to collection cost pot: $49 +$263 + $31 +$37 + $16 = **$396/day**

Daily costs: $329/day

Daily surplus: $396 -$329 = $67/day (✅ self-sustaining)

The backstop: dilution mechanism

If the collection cost pot doesn't accumulate enough revenue in an epoch to cover that epoch's costs, the protocol mints new tokens and sells them into the CL AMM to raise the shortfall. This ensures costs always get paid while socializing the burden across all token holders.

Step 1: Compute required dilution

$$\Delta S = \frac{C_{\text{shortfall}}}{P_{\text{pool}} \times (1 - \phi_{\text{slippage}})}$$

where:

• $C_{\text{shortfall}}$: Unpaid costs for this epoch (daily shortfall, in dollars)
• $P_{\text{pool}}$: Current pool mid-price (dollars per token)
• $\phi_{\text{slippage}}$: Expected slippage from selling into the pool (typically 0.5–2.0%)
• $\Delta S$: Number of tokens to mint and sell

Example: If daily costs are $329 but the collection cost pot only received$250, the shortfall is $79. If the token trades at$5,000 and slippage is 1.0%:

$$\Delta S = \frac{\$79}{\$5,000 \times 0.99} = \frac{\$79}{\$4,950} \approx 0.016 \text{ tokens}$$

Step 2: Mint and sell

The protocol mints $\Delta S$ new tokens and sells them into the CL AMM pool gradually during the next epoch to minimize slippage. The djinUSD received goes directly to paying custodians, insurers, and ops expenses.

Step 3: Dilution impact

If the collection has 2,000 tokens outstanding:

$$\text{Daily dilution} = \frac{0.016}{2,000} = 0.0008\% \text{ per day}$$ $$\text{Annualized dilution} = (1 + 0.000008)^{365} - 1 \approx 0.29\%/\text{year}$$

Every existing holder's fractional ownership decreases slightly each day when costs exceed revenue from the pot system. This is the cost of maintaining the collection's operations when productive activities don't generate sufficient fees, yield, and surplus.

Why this is fair: All holders benefit from custody, insurance, and ops—ensuring assets are safe, authenticated, and properly managed. When market activity doesn't generate enough fees to pay for these services, it's appropriate that all holders share the cost proportionally via dilution rather than requiring explicit invoices or assessments.

Incentive alignment: Dilution creates pressure on collections to generate sufficient trading volume, minting activity, and lending utilization to cover costs organically. Collections that can't sustain themselves economically will experience gradual dilution, naturally selecting for viable business models.

Wash trading economics: While there's a theoretical incentive for issuers or large holders to trade with themselves to generate fee pot revenue (which flows ~15% to collection costs), this is economically expensive—85% of fees go to other participants and protocol infrastructure. Additionally, protocol-level monitoring can flag abnormal flow patterns (high volume with minimal price movement, repetitive counterparty pairs), and governance can investigate and potentially adjust fee allocations for suspicious collections.

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Pot routing: where each dollar goes

Let's trace dollars through the pot system to make the accounting concrete.

Scenario 1: Swap fee → Fee pot

Alice swaps $100k djinUSD for RWA tokens. The pool charges a 0.40$400** flowing into the fee pot.

Fee pot distribution (end of epoch):

• 15% → Collection cost pot: $60 (direct allocation for custody, insurance, ops)
• 85% → Merit distribution: $340 total
  • Protocol merit: $68 (~17% of total pot, using V1 global ratio: 20% protocol / 80% user)
  • LP user merit: $272 (~68% of total pot, split by concentration and in-range time merit)

Check: $60 +$68 + $272 =$400 ✓

Merit accounting: Total user merit is 1,000 units. Protocol receives 250 merit units (V1 global ratio: 0.25× user merit). Total merit = 1,250. Protocol share of the $340 merit portion:$340 × 250/1,250 = $68.

Scenario 2: Minting surplus → Surplus pot

Bob (issuer) acquires an asset for $4,700 and mints 1 token. He sells the token into the pool at an average price of$5,000. Surplus = $300 flowing into the surplus pot.

Surplus pot distribution (end of epoch):

• 35% → Collection cost pot: $105 (direct allocation for custody, insurance, ops)
• 65% → Merit distribution: $195 total
  • Protocol merit: $39 (~13% of total pot, using V1 global ratio: 20% protocol / 80% user)
  • LP user merit: $156 (~52% of total pot, split by merit among LPs who provided the liquidity)

Check: $105 +$39 + $156 =$300 ✓

Merit accounting: Total user merit is 1,000 units. Protocol receives 250 merit units (V1 global ratio: 0.25× user merit). Total merit = 1,250. Protocol share of the $195 merit portion:$195 × 250/1,250 = $39.

Scenario 3: Lending spread → Lending pot

Carol borrows $500k djinUSD using RWA tokens as collateral. Daily interest differential = **$20.55/day** (1.5% APY spread).

Lending pot distribution (end of epoch):

• 40% → Protocol: $8.22 for maintaining lending infrastructure, liquidation engine, risk monitoring
• 30% → Lending insurance fund: $6.17 to cover potential liquidation shortfalls
• 30% → Collection cost pot: $6.16 toward costs

Check: $8.22 +$6.17 + $6.16 =$20.55 ✓

Scenario 4: djinUSD yield → Stable pot

$10M djinUSD earns 4.0$1,096/day gross yield**.

Stable pot distribution (end of epoch):

• 5% → Collection cost pots: $54.80 (direct allocation split among collections proportional to attached djinUSD)
• 95% → Merit distribution: $1,041.20 total
  • Base slice (15% of merit portion): $156 paid pro-rata to all djinUSD holders (everyone gets base yield)
  • Variable slice (85% of merit portion): $885 distributed by merit (V1: 20% protocol, 80% user):
    • Protocol merit: $177 (~16% of total pot, using V1 global ratio)
    • User merit: $708 (~65% of total pot) split between:
      • 55% to LP merit: $389 for tight, centered liquidity provision
      • 45% to LO merit: $319 for close, scarce limit orders

Check: $54.80 +$156 + $177 +$389 + $319 =$1,096 ✓

Merit accounting: Protocol receives 250 merit units per 1,000 user merit units (V1 global ratio). Total merit = 1,250. Protocol share of the $885 variable slice:$885 × 250/1,250 = $177.

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Transparency and monitoring

The protocol provides real-time, on-chain visibility into every collection's cost and revenue structure:

Per-collection dashboard (queryable on-chain):

• Costs YTD: Total custody, insurance, admin, ops expenses paid
• Revenue YTD: Swap fees, minting surplus, lending spread, yield allocation
• Shortfall / Surplus: Whether the collection is self-sustaining or requiring dilution
• Dilution rate: Annualized dilution % based on current cost vs. revenue trajectory

Protocol-wide aggregates:

• Total protocol revenue: Sum of all performance fees, swap margins, lending spread, admin fees
• Total costs facilitated: Sum of all pass-through expenses (custody, insurance, ops)
• Net margin: Protocol revenue minus protocol-specific ops (development, audits, security monitoring)

Historical transparency:

• 30/90/365-day cost coverage ratios
• Dilution events: On-chain record of every dilution mint with reasons, amounts, and impact
• Fee parameter history: Auditable log of all fee changes with governance approval (when applicable)

This data is available via protocol dashboard, on-chain queries, and third-party analytics tools. No hidden fees, no surprise charges, no discretionary markups. Every dollar in, every dollar out—transparent and auditable.

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Why this structure works

Most DeFi protocols either ignore real-world costs (because they're operating with purely digital assets) or hide them in opaque fee structures (traditional finance's management fee playbook). Rarity can't do either—the protocol must pay custody and insurance, and hiding costs destroys trust.

The waterfall + dilution model solves this by:

1. Making costs explicit

Custody costs 0.50%/year. Insurance costs 0.35%/year. Ops cost $20k/year. Admin margin is 0.15%/year. These numbers are public, auditable, and justified by third-party invoices. No room for hidden markups or rent extraction.

2. Aligning revenue with activity

Collections that generate trading volume (fee pot), minting surplus (surplus pot), lending utilization (lending pot), and attached djinUSD (stable pot) receive larger allocations from those pots to offset costs. Collections that don't generate productive activity receive smaller allocations and must dilute to cover costs. This naturally selects for collections that provide genuine economic utility—liquidity, composability, yield opportunities—rather than zombie funds that extract rents without delivering value.

3. Socializing unavoidable costs fairly

When costs exceed revenue, dilution spreads the burden across all holders proportionally. This is fairer than assessing random holders, requiring opt-in payments, or letting costs go unpaid (which would collapse the collection). Everyone benefits from custody and insurance; everyone shares the cost when market activity doesn't cover it.

4. Creating transparent pot allocations

Each pot's distribution is explicit and verifiable on-chain. Participants can see exactly what percentage goes to merit holders, what percentage goes to collection costs, and what percentage goes to protocol infrastructure. The protocol doesn't hide margins in opaque "management fees"—every dollar is accounted for in pot distributions that anyone can audit.

5. Enabling governance oversight

Once governance is live, the community can vote to adjust:

• Fee splits (LPs vs. collection pot vs. protocol)
• Admin margin percentage
• Performance fee share
• Dilution thresholds (when to trigger vs. waiting for more revenue)

But the core principle stays fixed: costs must be covered, margins must be explicit, and dilution is the backstop when revenue falls short.

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Worked example: full year accounting

Let's walk through a real collection's accounting for one year to show how the system works end-to-end.

Setup

Collection state:

• AUM: $10M (2,000 tokens ×$5,000 current price)
• Pool TVL: $20M (50% stables, 50% RWA tokens)
• djinUSD attached: $12M (LP stable-side + limit orders)

Cost parameters:

• $c_{\text{custody}}$ = 0.50%/year
• $c_{\text{insurance}}$ = 0.35%/year
• $f_{\text{admin}}$ = 0.15%/year
• $c_{\text{ops}}$ = $20k/year fixed

Total annual costs:

$$C_{\text{total}} = (0.0050 + 0.0035 + 0.0015) \times \$10M + \$20k = \$100k + \$20k = \$120k/\text{year}$$

Activity this year

Fee pot (from swap fees):

• Annual volume: $160M (8× TVL, typical for liquid RWA)
• Swap fee tier: 0.40%
• Total fees collected: $160M × 0.004 = **$640k**
• Collection cost allocation (15%): $96k

Surplus pot (from minting):

• 200 new tokens minted at average acquisition price $4,850
• Sold into pool at average price $5,050
• Surplus per token: $200
• Total surplus collected: 200 × $200 = **$40k**
• Collection cost allocation (35% after 20% protocol performance fee): $40k × 0.80 × 0.35 = **$11.2k**

Lending pot (from spread):

• Average borrowed: $3M against RWA collateral
• Borrower rate: 8.0% APY, Lender rate: 6.5% APY
• Spread collected: $3M × 0.015 = **$45k**
• Collection cost allocation (30%): $13.5k

Stable pot (from djinUSD yield):

• $12M attached djinUSD earning 4.0$480k
• After 10% protocol take for basket management: $480k × 0.90 =$432k
• Collection cost allocation (5% of net): $21.6k

Futures pot (from trading fees):

• Perpetual futures activity: $60k in fees collected
• Collection cost allocation (20%): $12k

Revenue to collection cost pot

Total annual revenue to cost pot: $96k +$11.2k + $13.5k +$21.6k + $12k = **$154.3k**

Cost coverage

Costs: $120k/year

Revenue to cost pot: $154.3k/year

Surplus: $154.3k -$120k = $34.3k

Status: ✅ Self-sustaining. No dilution required. Excess $34.3k flows to the collection treasury (a separate reserve bucket, distinct from the collection cost pot used to pay expenses). The treasury surplus can be:

• Retained as reserve buffer for future cost shortfalls
• Used to buy back and burn tokens (reducing supply, deflationary)
• Distributed as bonus merit to active participants
• Allocated to collection-specific development or marketing

Governance decides, but the key point: costs are fully covered by the collection's share of all productive pots. This is a healthy collection.

Terminology note: The collection cost pot is the operational account that pays custody, insurance, and ops each epoch. Any surplus at epoch end flows to the collection treasury, which is the reserve/investment account controlled by governance.

Alternate scenario: low-volume year

Suppose annual volume drops 60% to $64M:

Fee pot: $64M × 0.004 =$256k → collection cost allocation (15%) = $38.4k

Other pots unchanged: surplus pot $11.2k, lending pot$13.5k, stable pot $21.6k, futures pot$12k.

Total revenue to cost pot: $38.4k +$11.2k + $13.5k +$21.6k + $12k = **$96.7k**

Shortfall: $120k -$96.7k = $23.3k

Daily shortfall: $23.3k / 365 = **$63.84/day**

Required dilution per epoch:

$$\Delta S_{\text{daily}} = \frac{\$63.84}{\$5,000 \times 0.99} \approx 0.0129 \text{ tokens/day}$$

Annual dilution impact: $0.0129 \times 365 / 2,000 = 0.235\%$ dilution this year.

Interpretation: The collection's share of all pots didn't generate enough revenue to cover costs. Holders collectively pay via 0.235% dilution—equivalent to an annual "management fee" of 0.235% charged via token issuance rather than explicit invoicing. Still cheaper than most traditional funds (which charge 1–2% management fees), but it creates pressure to increase trading volume, minting activity, or lending utilization to return to self-sustainability.

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Comparison to traditional RWA funds

How does this fee structure compare to legacy financial products?

|| Metric | Rarity Protocol | Traditional RWA Fund | DeFi Lending (Aave) | || ------------------------------- | ---------------------------------------------- | --------------------------------- | ---------------------- | || Management fee | Admin margin: 0.10–0.25%/year | 1–2%/year (often higher) | None (protocol-owned) | || Performance fee | 20% of minting surplus only | 20% of all gains (over hurdle) | None | || Custody cost | 0.40–0.70%/year (pass-through) | Hidden in management fee | Not applicable | || Insurance cost | 0.25–0.50%/year (pass-through) | Hidden in management fee | Protocol-level reserve | || Trading fees | 0.30–0.80% per swap (higher for illiquid RWA) | Bid-ask spread (1–5%) | 0.30% swap fee | || Liquidity | 24/7, instant execution | Monthly/quarterly redemptions | 24/7, instant | || Transparency | On-chain, real-time, auditable | Quarterly reports, delayed | On-chain, real-time | || Dilution (backstop) | 0–0.5%/year (only if costs exceed revenue) | N/A (fees are mandatory) | N/A | || Yield on stables | 3–5% base yield on djinUSD holdings | None (cash earns 0%) | 2–4% on supplied USDC | || LP/participant incentives | Merit-based yield, recenter bounties | None (fees reduce returns) | Supply interest only | || Total cost (typical year) | ~1.0–1.5% all-in (admin + custody + insurance) | ~2.5–4.0% all-in (everything hidden) | ~0.3% per trade |

Key advantages:

• Transparency: Every cost and margin is public and justified
• Lower admin overhead: 0.15% admin margin vs. 1–2% management fees
• Activity-based: Collections that generate volume/surplus can fully offset costs
• Composability: Unlike traditional funds, Rarity tokens integrate with DeFi lending, yield, and derivatives

Key tradeoffs:

• Dilution risk: Inactive collections may experience 0.3–0.5%/year dilution
• Variable costs: Traditional funds have fixed fees; Rarity costs vary with market activity
• Complexity: Understanding waterfall + dilution requires more sophistication than "2% management fee"

For participants who value transparency, lower margins, and composability, the Rarity model is strictly better. For participants who prefer fixed, predictable fees even if higher, traditional funds may feel simpler (though economically worse).

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Implementation notes

V1: Simplified fee structure

Launch configuration:

• Fixed pot splits encoded in contracts (no governance adjustment)
• Daily epochs with automatic dilution if collection cost pot < daily costs
• Manual reconciliation for custody/insurance invoices with on-chain transparency
• All pot parameters and distributions published in documentation and queryable on-chain

Goal: Prove the pot-based model works, establish trust, collect data on actual cost/revenue ratios from all productive activities.

V2: Dynamic optimization

Enhancements:

• Governance-adjustable pot splits (requires token vote to change distribution percentages)
• Cross-epoch cost smoothing (use surplus from productive epochs to buffer shortfall epochs)
• Automated custody/insurance payment via smart contract escrows
• Cross-collection cost sharing for economies of scale (e.g., shared legal costs)

Goal: Optimize pot distributions based on real data, enable community governance, reduce dilution frequency.

V3: Advanced mechanisms

Future possibilities:

• Surplus buybacks: Use excess cost pot revenue to buy and burn tokens, creating deflationary pressure
• Staking dilution protection: Token holders who stake earn increased merit or dilution offsets
• Merit boosts: Long-term participants or high-volume users earn merit multipliers
• Cross-product merit stacking: Participants who provide liquidity across spot + lending + futures earn bonus merit

Goal: Create sophisticated pot-based incentive structures that reward loyal, high-value participants.

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Related reading

Core economic mechanisms

• Yield Mechanisms — How djinUSD yield is distributed via pots and merit
• Stablecoin — djinUSD basket composition and base yield sources
• Minting — Surplus pot generation and profit-sharing structures
• Spot Trading (CL AMM) — Trading fee mechanisms and dynamic schedules

Integration points

• Bootstrapping (Raredrop) — One-time bootstrapping fee and initial setup costs
• Lending — Lending spread distribution and insurance fund mechanics
• Futures — Futures fees and funding rate margins
• Mark-to-Truth Auctions — Infrastructure costs covered by admin fees

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Summary: transparent economics for sustainable growth

The Rarity fee model is built on one simple principle: costs and margins must be explicit, justified, and transparent. No hidden markups. No discretionary charges. No surprises.

Costs (custody, insurance, ops) are pass-through expenses paid to third parties. The protocol doesn't profit from them—it facilitates them and charges a small admin margin (0.10–0.25%/year) for the coordination burden.

Pots collect revenue from all productive activities—swap fees, minting surplus, lending spread, djinUSD yield, futures fees. Each pot distributes dollars primarily to merit holders (participants who improve market quality), with smaller allocations to collection cost coverage and protocol infrastructure. These allocations are explicit, verifiable on-chain, and aligned with value creation.

Dilution is the backstop that ensures costs never go unpaid. When a collection's share of all pots doesn't cover its daily expenses, new tokens are minted and sold to raise the shortfall. This socializes costs fairly across all holders and creates pressure for collections to generate sufficient productive activity.

The result: self-sustaining collections that cover their costs through their share of protocol-wide pot distributions—no external subsidies required. Collections that can't generate enough trading, minting, lending, and liquidity activity receive smaller pot allocations and naturally dilute, selecting for viable business models. And participants always know exactly what they're paying and why, because every pot's distribution is transparent and auditable.

That's not just good economics. That's the foundation for a transparent, composable, and sustainable real-world asset protocol.