A SAFE can provide quick funding which qualifies for SEIS/EIS

Last Updated: June 25th, 2024

Did you know that you can jump the queue and get early funding for Seed Enterprise Investment Scheme and Enterprise Investment Scheme (“SEIS/EIS”) if you use SAFE? The UK recognises a concept that has emanated from the US known as a Simple Agreement for Future Equity (“SAFE”) similar to the well-known UK concept of Advance Subscription Agreements (“ASA”).

SEIS/EIS encourages investment in qualifying companies by granting tax incentives to investors investing under SEIS/EIS. Qualifying companies in need of funding can use the SEIS/EIS to attract investors and, by making use of SAFE or an ASA, speed up the cash flow into the company while still allowing investors to benefit from SEIS/EIS tax relief.

What is the point of SAFE (or an SEIS/EIS Advance Subscription Agreement)?

A SAFE or SEIS/EIS ASA is an agreement to protect an investor paying upfront for shares to be issued in the future when the SEIS/EIS funding round closes. The shares will typically be issued at a discounted rate compared to the SEIS/EIS funding target. The advance payment by the investor allows the startup to secure the cash injection it needs.

Unlike a convertible loan note, provided the SEIS/EIS ASA or SAFE is structured properly, the investor can still benefit from SEIS/EIS tax reliefs, when the shares are issued.

Although it is not possible to receive guaranteed approval from HMRC in terms of the availability of SEIS/EIS tax relief, it is possible to request advance assurance from HMRC that the company is not disqualified from receiving SEIS investment. We do recommend that step.

An investment under a SAFE or advanced subscription agreement ASA for SEIS/EIS is not a loan – the investor is not entitled to interest or even to repayment under the terms of the Advanced Subscription Agreement ASA. This means that their funds are at risk.

The tax reliefs are attractive and an overview of the SEIS/EIS tax incentives can be found here.

What to look out for under a SAFE or ASA

You need to start with the basics :-

1. Firstly, whether the directors have the right to issue shares, or whether certain resolutions are needed to be able to allow for the issue of shares.

2. What are the rights of existing shareholders?

3. What do the articles say?

4. There may also be a shareholders’ agreement in existence, and investors will want to know how this applies to them.

Negotiation points under a SAFE or ASA

There are certain terms in an SEIS/EIS ASA and SAFE that will need to be discussed and agreed upon – there is no such thing as standard. Areas to negotiate include:

  • Price per share and any discount – obviously a big point. Not all shareholders have to invest at the same value.
  • How many shares will be issued? – the upper limit on the number of shares the investor can receive. This reflects SEIS/EIS limitations and/or prevent founders’ shareholdings becoming too diluted.
  • When must the funding round complete?– there should be a longstop date which is the date by which the shares must be issued, with clear guidance as to what occurs if that deadline is missed. As a general rule, for SEIS/EIS qualifying investments HMRC sets a maximum longstop date as 6 months from the investment date.
  • Will pre-emption be preserved? – it is not uncommon for start-up companies to have a rule that, before new shares are allocated to a new shareholder, they will be first offered to the existing shareholders (so as not to dilute existing shareholdings). This needs to be anticipated and provided for in the SEIS/EIS advance subscription agreement or SAFE and the dilution impact considered.

SEIS/EIS Compliance

You need to avoid certain situations which will cause the tax relief to be lost. Common mistakes are:

  • The investment made must be non-refundable;
  • The shares issued must be ordinary, fully paid shares, paid for in cash, and not preferential in any way to the shares already in issue in the company;
  • The investor cannot be connected – basically meaning he cannot acquire more than 30% of the company’s share capital. Overdrawn loan accounts can give rise to control problems.
  • The subscription agreement should not contain any investor protections or safeguards (such as repaying the investment before other investors);
  • Interest should not be charged.

Commercial factors for both investors and founders

  • The main advantage of a SAFE Simple Agreement for Future Equity or SEIS/EIS ASA is that the founders can offer a SAFE or ASA to potential investors without the need for a pre-funding round valuation. Valuing a young start-up company is tricky and investors will often want to push the value down to get a better deal and this can result in founders giving away a greater proportion of the company than they wished to.
  • From the investors’ perspective, assuming the usual SEIS or EIS requirements are satisfied, they will enjoy the huge tax benefits and will expect to be granted shares in a promising new company.
  • When issuing shares to new investors, it is important to remember that as a founder, your shareholding in the company will be diluted. Although the investors will usually be receiving the shares at a discount, they will be receiving shares that carry the same rights as those of the founding shareholders, therefore they will be entitled to voting rights and rights to dividends should they be declared.

Elliot McGahan

I am a member of the dispute resolution team and love every minute. It is demanding as you are required to assimilate detail very quickly and apply the law being better of course than the other side. I work with a strong team which is a privilege.

Let us take it from here

Call us on 020 7438 1060 or complete the form and one of our team will be in touch.