SAFE Notes

A Simple Agreement for Future Equity, or "SAFE" is a relatively new form of financial instrument. The seed funding platform "Y-Combinator" claims to have developed it in 2014 as a simple replacement for convertible notes and it has since been copied widely. It is variously defined in different sources, but is commonly held to have the following features:

• no maturity date,
• no interest rate,
• automatic conversion on any priced share issue, and
• a valuation cap - i.e. the maximum value to which the SAFE will convert.

A key aspect of a SAFE is that it does not create or reflect any debt between the parties. In practice, a SAFE is an agreement that can be used between a company and an investor. The investor invests money in the company using a SAFE. In exchange for the money, the investor receives the right to purchase stock in a future equity round (when one occurs) subject to certain parameters set out in the SAFE.

A SAFE may be used as a financial instrument by Venture Capital Limited Partnerships and Early Stage Venture Capital Limited Partnerships under several conditions. First, although SAFE is a term that has gained some traction as describing a financial instrument with the features described above, it cannot be regarded as a term that has recognition in law, or a term that defines only such an instrument. Care should be taken, therefore, to describe the instrument rather than merely relying on the term, especially in external facing documentation and reporting. Additionally, the Venture Capital Act 2002 and the Income Tax Assessment Act 1997 have the effect that a SAFE will be an eligible venture capital investment if it is a convertible note that is not a debt interest. Broadly speaking, a financial instrument is a debt interest if the sum of the amounts the issuer is required to pay to the investor equals or exceeds the amount received by the issuer from the investor. The value of any shares issued to the investor is not treated as a payment to the investor.

Any further questions concerning the debt/equity distinction should be directed to the Australian Taxation Office on 13 28 66. If you are overseas, phone 61 8 8208 1847.