From Silicon Valley to Sarona, techies and professionals know what a SAFE is. Unfortunately, others, mainly in Europe, have no idea. In one recent case, such ignorance nearly jeopardized a major Israeli hi-tech merger and acquisition (M&A) deal.
So what is a SAFE? And what are the Israeli tax implications?
SAFE stands for Simple Agreement For Future Equity, and it has become a popular way of financing hi-tech start-ups in the last few years.
Imagine a start-up company, which is bootstrapping to make ends meet, raising a minuscule $50,000 or $100,000 to finance its research and development (R&D) from the 3Fs – family, friends, and fools. (If the investment succeeds, they become geniuses).
Instead of spending money on a share valuation each time, a SAFE agreement will wait for a much larger investment, say $500,000 from a venture capital (VC) fund, then issue shares to the 3F investors at the share price agreed with the VC fund, less a discount of say 20%, for investing early. So, a SAFE avoids the need for repeated valuation costs.
But what is the tax treatment of the 20% discount in the above example? No tax!
The Israeli Tax Authority (ITA) issued instructions for the non-taxation of SAFEs in a letter of January 25, 2025, to the Israeli Advance Technology Industries (IATI) organization, titled “Instructions on Tax Aspects Applicable to Investments in a Company Via a SAFE.” This letter expanded an earlier similar letter of May 16, 2023. The new letter covers SAFEs signed in 2025-2026.
ITA rules define when SAFE investments qualify as equity, not loans
Briefly, a SAFE investment will be regarded as a payment on account of shares, and the discount will not be taxed as loan interest if various conditions are met – as summarized below.
The ITA Instructions are applicable to an Israeli resident private company. Most of its expenses must be R&D, or production and marketing of products derived from such R&D per audited financial statements for three years before the SAFE was signed or since incorporation if a lesser period. The R&D must still be ongoing when the SAFE is signed. The main assets must not be related to real estate or natural resources. No capital raised in the three months before the SAFE agreement closed.
SAFE is not a loan: Many conditions apply to ensure the SAFE investment is on account of shares to be issued, not a loan or a bond.
The maximum investment of each SAFE investor should not exceed $20 million. Investors need company approval to transfer the SAFE investment, unless the transferee is approved in the SAFE.
SAFE agreements must function as equity, not debt
The SAFE must not be labeled as a loan or debt. It must be intended for allotment of shares or share rights only upon the earliest of: (1) “qualified financing” fundraising or similar; (2) IPO on a stock exchange; (3) “exit” share sale transaction by a majority of the number of shareholders; (4) sale of most or all the company’s assets; or (5) agreed date. Allotment is required upon a fundraising exceeding 40% of fully diluted share capital or 10 times the accumulated total SAFE amount.
No loan interest: The SAFE investors cannot receive or be entitled to a refund of their investment except via an exit (sale to a third party or 25% or less minority shareholder) or liquidation (subordinated to bondholders). They cannot have any right to interest, royalties, or any other income before shares are issued. Any allotment discount must be fixed and not fluctuate before shares are issued. But up to three levels of discount are permissible based on milestones; the biggest discount must be given within three years after signing the SAFE. Company assets may not be mortgaged to the investor. The company may not deduct or capitalize finance expenses relating to the SAFE for Israeli tax purposes.
When shares are allotted to SAFE investors, at least 25% of capital issued is from non-SAFE investors. Shares issued may not be sold until at least 12 months after the SAFE is signed, or nine months after allotment of the shares, unless there is an exit or liquidation sooner that meets the above terms. The SAFE holders must receive the same price as shareholders.
If the rules in the ITA letter are met, no Israeli tax or withholding tax applies to the discount. If the rules are not met, the ITA letter says the overall circumstances must be considered. This would be the case outside Israeli hi-tech.
leon@hcat.co