Should we replace the SAFT with a DEFT?


In the last year, many pre-sales of tokens have been structured as "SAFTs" ("Simple Agreement for Future Tokens"), partly because it's hard to sell a token that doesn't exist yet and partly because SAFTs were seen as a pathway through securities laws and other issues.

More recently, I've been hearing about the death of SAFTs.  The word "future" in the title implicates CFTC rules (with a potential related significant increase in the required net worth of purchasers), and the promise to issue tokens that don't currently exist make it questionable whether a SAFT is "property" for tax purposes, which is a prerequisite for an "83(b) election".

It's also not possible to use a SAFT to make an acquisition of another company or assets without having the seller be taxed on the value of the SAFT on the date of issuance regardless of when the tokens ultimately are issued -- i.e. when the SAFT recipient can't sell tokens to cover his or her tax liability.  (Although on some level, this issue shouldn't exist if the 83(b) issue above does and vice versa, but who expects the government to be consistent all the time?)

However, there may be an alternative form for the same transaction, which I recommend calling a "Debt Exchangeable For Tokens" or "DEFT".  In a DEFT, the issuer borrows money from the investor, and offers the DEFT  holder the right to "exchange" the instrument for tokens at a fixed price.  Economically, this is the same as a SAFT where the issuer generally has an obligation to return the invested cash if the network never launches, and where the number of tokens payable to a SAFT holder is increased if the price of the tokens on the exchange date is less than the original target price.

In the late 1990s, several companies tried issuing a similar instrument for appreciated financial positions (with such instruments alternatively called DECS, STARS, PEPS, ACES, STRYPES and PRIDES), but those transactions essentially disappeared when the IRS ruled that they did not qualify for treatment as debt primarily because there was no minimum payment obligation.  (See Rev. Rule 2003-7 and FSA 199940007).  However, a DEFT would not fail this test because the investor would always have a right to demand return of his or her investment at maturity.  (Clearly there are a large number of details that would need to be addressed, but conceptually this should work.)

What are the benefits of a DEFT (assuming tax treatment as debt is successful)?  Well first of all, there's no question who the issuer is, and because it's debt, it shouldn't matter to the issuer how many investors hold a DEFT (if a SAFT were treated as equity, then there may be adverse consequences to exceeding 2000 holders).  Second, a DEFT is clearly property, so it could be sold to an employee subject to vesting and the employee could make an 83(b) election.  Third, they could be used to purchase other companies or intellectual property and in many cases, the seller would not be taxed until the DEFT was exchanged for tokens (which presumably would only occur after the token was liquid).  Also, using a DEFT would presumably reduce the risk that the CFTC claimed that the transaction was a "futures contract", and possibly make other securities law issues easier to manage.

Of course none of this changes whether tokens themselves are securities, or how those instruments are regulated, but using a DEFT should open up lots of opportunities for token sponsors to move forward while resolving those issues.


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