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Introduction to Simple Agreement for Future Tokens (SAFT)

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by Oluwapelumi Adejumo · 7 min read
Introduction to Simple Agreement for Future Tokens (SAFT)
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Simple Agreement for Future Tokens (SAFT) allows investors to inject money into a startup to convert that stake into equity in the future.

The idea behind the introduction of the Simple Agreement for Future Tokens (SAFT) framework is that there exists no clear determinant for which types of tokens are securities and which are not. That means tokens that were sold as utility tokens to the general public were adopted as securities after issue by the United States Securities and Exchange Commission (SEC), which is usually trailed by unwanted legal repercussions.

Based on Section 5 of the Securities Act of 1933, issuing unregistered securities is an offense. Beyond the monetary fine that contravening that law may attract, defaulters may also be imprisoned for up to 5 years. Secondary trading platforms that facilitate transactions in the tokens could also be found culpable for failing to register as either a broker-dealer, exchange, or alternative trading system (ATS).

History of SAFT

Protocol Labs and Cooley LLP designed a compliant framework in October 2017 that had the ability to facilitate fundraising in the cryptocurrency space under the name Simple Agreement for Future Tokens (SAFT). Prior to that, Initial Coin Offerings (ICOs) influenced the industry greatly. Startups were raising funds running into millions of dollars in days, and sometimes hours.

As soon as investors began getting access to ‘Placeholder’ tokens that would represent their rights to future fully-functional tokens, regulators began to make their entry into the scene. In order to insure against regulatory troubles for all parties involved, the SAFT framework was introduced. Its aim is to navigate the federal securities as well as money-transmitter laws, provide greater tax management flexibility, and introduce investor and consumer protection.

How Does SAFT Work?

The major reason for the introduction of SAFT was to solve uncertainty between investors and the issuer. In a situation where the token sale takes place with the hopes that they would be a utility/commodity in the future, a SAFT contract serves as a security that accredited investors can buy. This agreement guarantees that investors will be delivering tokens as soon as a functioning network or application has been developed and tokens can be used on it. 

What investors and issuers of SAFT are banking on is that the SEC or the courts will determine that the tokens are not securities in the future, while they might have been labeled as such during ICO due to the fact that there was no fully functional network. The following are the features of SAFT on a high level:

  • The developer of a token-based decentralized network consents to a written SAFT agreement with investors. The SAFT allows investors to pay more money to the developers in exchange for a right to the tokens as soon as the network is finished. Naturally, the investor gets a discount and does not have to issue any pre-functional tokens at this stage. However, they are mandated to file the required forms with the SEC. 
  • The developers use the money they got to develop the network. This could take as long as months or years to complete and still, no pre-functional tokens are issued. 
  • As soon as the network’s basic functionality is in existence, the developers create the tokens and deliver them to the investors, who are free to sell the tokens to the public on the open market to get a profit. 
  • The developers can also sell tokens to the public at this stage as it has now become a consumptive use token.

SAFT vs ICO

Unlike ICOs, SAFT is restricted to accredited investors. In other words, cryptocurrency projects cannot perform early-stage fundraising with retail investors. An accredited investor is an individual who has legal permission to deal in securities. He also meets certain requirements pertaining to income, net worth, professional experience, etc.

SAFT framework is classified as a security because before the creation and release of the tokens, investors are investing in a venture depending on expectations that those tokens will go for a higher price once the project has undergone further development. This, therefore, meets the basic requirement of security.

SAFT vs SAFE

There is a clear distinction between Simple Agreement for Future Tokens (SAFT) and Simple Agreement Future Equity (SAFE). SAFT allows investors to inject money into a startup to convert that stake into equity in the future. Developers are able to use money from the sale of SAFT to develop the network and technology necessary to create a functional token and then provide investors with these tokens expecting that a market will be available to sell these tokens.

Investors who purchase a SAFT face the risk of losing their money. Besides, they have no alternative if the venture fails because a SAFT is a non-debt financial instrument. The document only makes provision for investors to take a financial stake in the venture. That means investors will be prone to the same enterprise risk as if they had purchased SAFE.

Limitations of SAFTs

The SAFT framework is surely not a panacea to all the problems the industry faces. One of the obvious limitations of the framework bothers on a security token. It has the ability to represent tokenized equity in a company or even a limited partnership interest in a fund. This, therefore, makes it a security.

The SAFT framework doesn’t have the authority to solve any of the regulatory issues in such situations. It is not necessary that every already-functional utility will fail the Howey test and thus lose its status as a security. SAFT also excludes retail investors since only accredited investors can enter it. They are only applicable in the United States market. The frame centers around the United States federal law and is capable of breaching existing regulations in other jurisdictions.

Pros & Cons of SAFTs

Here is a list of advantages and disadvantages that Simple Agreement for Future Tokens has.

Pros

  • Through the two-step process, the SAFT framework is able to bring a financing structure and a standard for token financing that suits the stage and purpose of the companies. Also, the framework permits more institutional investors to feel confident when they participate in those kinds of token sales. 
  • The creator of SAFT saw the framework as a way to work within existing laws in such a way that it doesn’t assume that legislative change to accommodate the technology could be possible. Therefore, SAFTs can help to reduce the risks for institutional investors while democratizing access through a vibrant secondary market. As a result, only wealthy and institutional buyers will face the risk in case the project fails. Consumer protection will be activated if the final product (network) is defective.

Cons

  • SAFT tokens are more likely to evade SEC’s security classification. However, there is no confirmation that it works as the SEC intended.
  • Using the SAFT wouldn’t make a securities token any less secure since the SAFT doesn’t achieve much for tokens that are themselves securities.
  • Further, the SAFT framework centers around United States federal laws. It is not applicable globally, which can hamper international contributions.
  • Finally, the SAFT framework doesn’t allow the participation of the general public. It is due to the fact that only accredited investors could participate in the first phase of token sales.

Conclusion

There are many issues to address to make the SAFT framework become the best practice for token sales. However, according to its creator Marco Santori, the initial whitepaper of SAFT was the first move towards a compliant token sale framework. But it doesn’t mean SAFT is ready for primetime. With any approach to the token sale, it is important to work hand-in-hand with legal professionals. It will help to navigate through the complex circumstance analysis that underpins the United States federal securities laws.

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FAQ

What is SAFT?

SAFT is a type of investment contract that asks investors to finance the progress of a cryptocurrency network in exchange for discounted tokens at a date to be decided in the future.

How does SAFT work?

The major reason for the introduction of SAFT is to solve uncertainty between investors and the issuer. In a situation where the tokens are sold with the hopes that they would be a utility/commodity in the future, a SAFT contract can be created as a security that can be sold to accredited investors. This agreement guarantees that investors will be delivering tokens as soon as a functioning network or application has been developed and tokens can be used on it.

Who are authorized or accredited investors?

An accredited investor is an individual who is legally permitted to deal in securities as long as they meet certain requirements pertaining to income, net worth, professional experience, etc. 

What is special about SAFT?

With SAFTs, cryptocurrency ventures are able to raise funds without breaching any regulation.

How is SAFT different from SAFE?

SAFT allows investors to inject money into a startup for the purpose of converting that stake into equity in the future.

What are the benefits of SAFT?

Saft boosts investors’ confidence in token sales, reduces the risks for institutional investors while democratizing access through a vibrant secondary market, brings a financing structure and a standard for token financing that suits the stage and purpose of the companies.

What are the disadvantages of SAFT?

The SAFT framework is centered around United States federal laws and is not applicable globally and this can hamper international contributions. Using the SAFT wouldn’t make a securities token any less secure since the SAFT doesn’t achieve much for tokens that are themselves securities.

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