Dear Clients and Friends,
Following the guidelines issued by the Tax Authority in 2023, which expired on December 31, 2024 (See our previous update in this regard), the Tax Authority published new guidelines on January 29, 2025. These guidelines will apply to the taxation of investments through SAFE (Simple Agreement for Future Equity) in Israeli technology companies for the years 2025-2026. This information is pertinent for both companies and investors, especially given that SAFE has become a common and accepted financial instrument.
General Background:
SAFE is a financial tool that allows private companies to raise capital quickly and efficiently, while deferring the issuance of shares to a later date. It is an ideal solution for companies without an agreed-upon valuation at the time of signing the SAFE. The capital is injected into the company at the time of investment, but the issuance of shares occurs later, when the company’s value is agreed upon with investors in a future investment round. Additionally, SAFE investors typically benefit from a discount on the share price in the future investment round or additional protection on the valuation, ensuring that their investment is converted into shares based on the lower of the discounted price or a pre-determined maximum company valuation at the time of investment.
The income tax guidelines do not limit or dictate the content of SAFEs but rather specify the conditions under which SAFE investors will be recognized as equity investors in the target companies and will not be taxed on the difference between the actual share price at the time of conversion and the price per share at which the shares were issued to them.
The Guidelines:
Type of Companies:
Eligible companies for tax recognition of SAFE investments as equity investments are private Israeli companies operating in the high-tech industry, with most of their expenses classified as research and development expenses. Additionally, only companies who have not conducted an equity investment round capital during the three- month period preceding the signing of the SAFE shall be able to benefit from such beneficial tax treatment.
SAFE Conditions:
– The investment amount under SAFE should not exceed $20 million per individual investor (directly or indirectly).
– The SAFE investors are not allowed to transfer their rights under the SAFE to third parties (except for customary “permitted transferees”) without the company’s consent until the conversion of their investment amount into shares.
– The investment is intended solely for the acquisition of shares, according to the mechanism specified in the agreement.
– The investment amount will be automatically converted in the event of a future investment round (where at least 25% of the funds are not derived from SAFE), an exit event, an IPO, or at a pre-determined date.
– The investor has no right to a cash refund, except in certain cases like company liquidation.
– The SAFE does not include any commitment for financial compensation or interest to the investor.
– No securities or liens will be provided to SAFE investors.
– Up to three discount levels for conversion may be granted based on the passage of time or meeting/missing milestones, with the maximum discount rate granted no later than three years from the SAFE investment.
Additional Conditions:
– The sale of shares will occur after a minimum period of 12 months from the SAFE signing or 9 months from the issuance of shares to SAFE investors (unless the share sale is part of an exit event).
– In a sale, the price per share received by the SAFE investor will be identical to the price received by shareholders of the same class of shares.
Tax Implications in Case of Compliance (subject to the Tax Authority’s discretion to apply specific rules in certain cases – investments by directors and controlling shareholders, SAFE investments in the course of the investor’s business, etc.):
– SAFE investment will be considered an advance on account of shares, and no tax event will occur at the time of issuance of shares against the SAFE amount.
– In the case of share sale, the proceeds will be considered income from share sale.
– If all conditions are not met at the time of issuance of shares, the transaction will be re-evaluated and may be classified as interest income or another type of transaction.
Applicability:
The guidelines apply to SAFE transactions signed or to be signed between January 1, 2025, and December 31, 2026. They can also be used to clarify previous guidelines for transactions signed before 2025.
This update does not constitute an opinion or provide advice. Given the complexity of the subject, we recommend reviewing the income tax guidelines themselves and seeking legal or tax advice regarding specific circumstances.
As always, we will be glad to provide legal assistance and guidance regarding this matter, and all related legal aspects thereof, as may be required.
*The review was written by Adv. Amir Zolty, Partner and Head of Hi-Tech Practice.