What is the new concept of "MEV tax"? Who will pay the tax?

Original title: "What is MEV tax? Who pays the tax?"

Original source: 0xNatalie, ChainFeeds

Paradigm researchers Dan Robinson and Dave White proposed a new concept "MEV tax". The MEV tax mechanism allows applications to recover part of the MEV from transactions, with the goal of redistributing the value of MEV and preventing all of this value from being owned by the searchers who execute the transaction. This mechanism can be effectively implemented on OP Stack L2 such as OP Mainnet, Base and Blast.

Introduction to MEV tax

MEV taxes are a mechanism that allows smart contracts to automatically extract fees by analyzing the priority fee in transactions. Under this framework, smart contracts charge a certain percentage of MEV tax based on the priority fee of the transaction. The priority fee is a fee paid by users to speed up the confirmation of their transactions by the network. After EIP-1559, Ethereum's transaction fees are divided into base fees and priority fees. The base fee is automatically set by the network and dynamically adjusted according to network congestion, while the priority fee is an additional fee paid by users to block proposers to incentivize their transactions to be processed first.

The smart contract checks the priority fee of the transaction and charges a proportional additional fee accordingly, called the MEV tax. For example, under the MEV tax, users pay a priority fee of 1u to the block proposer to incentivize them to process this transaction first. In order for the searcher to get all the MEV of this transaction (for example, a profit of 100u), he must pay 99u to the smart contract according to the 1:99 ratio fee set by the smart contract that interacts with this transaction, and this 99u will be returned to the application (for providing rewards to users, etc.). In the absence of MEV tax, users pay a priority fee of 1u. Similarly, if the proposer processes this transaction, he will get 1u, but the MEV (100u) generated by this transaction will go to the searcher.

Validity based on competitive priority ordering rules

The effectiveness of the MEV tax is based on the rules of "competitive priority ordering":

1. Sort by priority fee:Block proposers should sort transactions according to their priority fees, and transactions with high priority fees should be processed first.

2. No censorship:Block proposers cannot censor or exclude any transaction, even those that pay a lower priority fee.

3. No peeking and delaying:Block proposers cannot peek at the contents of transactions in advance, nor can they delay the processing of certain transactions without reason.

Based on this rule, the MEV tax is only effective on OP Stack L2. Because the block proposers (sorters) on these chains follow the rules of competitive priority sorting. If sorters violate these principles, they can also evade the MEV tax by manipulating the order of transactions and capture value for themselves.

For Ethereum L1, blocks are built through competitive block auction systems such as MEV-Boost, where multiple block builders compete to maximize revenue by including high-fee transactions. Since the MEV tax will reduce the benefits of builders, in a highly competitive block building environment, builders will tend to give priority to transactions that do not implement the MEV tax, so this mechanism is invalid on Ethereum.

Problems solved by the MEV tax

The MEV tax can be adopted by any smart contract without the need for specific external facilities, allowing smart contract developers to customize the charging model according to their application needs. This flexibility ensures that different blockchain protocols and applications can be optimized according to their own strategies while maintaining compatibility with other systems. For example:

· Optimizing DEX transactions:When the MEV tax is introduced in DEX, the execution price of the transaction depends not only on the market supply and demand, but also on the MEV tax. Because in order to complete the transaction first and get a better price, the searcher needs to pay a higher MEV tax. This part of the fee can be used to increase the priority of the transaction in the block, or as a reward mechanism, fed back to users or liquidity providers, which may change the execution price of the transaction and indirectly reduce the slippage of the transaction price.

· Reduce losses and rebalancing issues for liquidity providers in AMMs:AMMs can be set to prioritize transactions that pay higher MEV taxes, so that a portion of profits can be directly recovered from arbitrageurs and returned to AMMs or liquidity providers, ensuring that liquidity providers' earnings are more stable.

· Capture "backrun" MEV generated by transactions:By integrating the MEV tax into the smart contract wallet, a mechanism is designed to allow the user's wallet to automatically collect MEV taxes when trading. In this way, when other market participants try to take advantage of the MEV generated by a user's transaction, they must pay the MEV tax, which can be returned to the user of the original transaction. This mechanism effectively allows users to capture the MEV generated by their own transactions and protects their interests.

Limitations of MEV Tax

In addition to the effectiveness mentioned above, which is highly dependent on the sorter's strict adherence to the competition priority sorting rules, the MEV tax also faces some other limitations. For example, when the block is completely filled, the block proposer may have to abandon lower priority transactions instead of simply including them in the later stage of the block. In addition, the success of the MEV tax requires competition in the market, which means that the opportunity for transactions needs to be widely known. For some applications based on user intent, this may require the user's intent to be made public, resulting in potential value leakage in the competition.

Although the MEV tax mechanism faces some challenges and limitations, this innovative approach is also a way to redistribute MEV reasonably, returning the MEV profits that originally belonged to the searchers to the applications. The purpose of MEV tax and MEV Share is similar, both of which are looking for ways to return MEV to promote fair distribution of the MEV ecosystem.

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