The fundraising landscape has shifted dramatically in recent years, with Simple Agreements for Future Equity (SAFEs) now dominating 90% of pre-seed deals. Yet many founders still grapple with a fundamental question: when does a convertible note make more sense than a SAFE? With interest rates holding steady at 7% and valuation caps continuing to rise, the decision between these two instruments has become more nuanced than ever.
This comprehensive analysis draws on the latest Q1 2025 data from Carta and Development Corporate to provide founders with a practical decision framework. We'll examine the current market dynamics, break down the key differences between SAFEs and convertible notes, and provide actionable guidance for founders navigating their angel rounds. (Metal Blog)
The Current State of Early-Stage Funding Instruments
SAFE Dominance in Pre-Seed Markets
The rise of SAFEs has been nothing short of remarkable. Originally introduced by Y Combinator in 2013, SAFEs have become the instrument of choice for early-stage fundraising. According to recent market data, SAFEs now represent approximately 90% of all pre-seed funding rounds, a dramatic shift from just a decade ago when convertible notes were the standard. (Metal Pre-Seed Overview)
This dominance isn't accidental. SAFEs offer several advantages that align with the realities of modern startup fundraising. They're simpler to execute, don't accrue interest, and avoid the complexity of maturity dates that can create unnecessary pressure on early-stage companies. For founders operating in the pre-seed space, where the focus should be on product development and market validation rather than complex financial instruments, SAFEs provide a streamlined path to capital. (Metal Pre-Seed Drivers)
Interest Rate Environment and Its Impact
The current interest rate environment adds another layer of complexity to the SAFE vs. convertible note decision. With rates holding at 7%, convertible notes have become more expensive for founders over time. Unlike SAFEs, which don't accrue interest, convertible notes create an ongoing financial obligation that compounds until conversion. (Capboard Series A Guide)
For a $500,000 convertible note at 7% interest, founders face an additional $35,000 in annual interest costs. Over an 18-month period to Series A, this translates to $52,500 in additional dilution - a significant consideration for cash-strapped startups. This mathematical reality has pushed many founders toward SAFEs, particularly in the current rate environment.
Rising Valuation Caps: A Double-Edged Sword
Valuation caps on both SAFEs and convertible notes have been trending upward throughout 2024 and into 2025. While this might seem favorable to founders, it reflects broader market dynamics including increased selectivity from investors and higher quality bars for early-stage companies. (Series A Funding Guide)
The rise in valuation caps also means that the conversion mechanics become more critical. A higher cap provides more protection for founders but may make the instrument less attractive to investors who are seeking meaningful ownership stakes in successful companies.
Understanding the Fundamental Differences
SAFE: Simplicity and Founder-Friendliness
SAFEs are designed with simplicity in mind. They represent a contractual right to receive equity in a future priced round, typically triggered by a Series A or other qualified financing event. The key characteristics include:
No Interest Accrual: Unlike convertible notes, SAFEs don't accumulate interest over time, making them more predictable for founders managing their cap tables.
No Maturity Date: SAFEs don't have expiration dates, removing the pressure of forced conversion or repayment that can complicate early-stage operations.
Conversion Mechanics: SAFEs typically convert at the lower of the valuation cap or the price in the next qualified financing round, with some including discount rates for additional investor protection.
Convertible Notes: Traditional Debt with Equity Upside
Convertible notes, despite their name, are debt instruments that can convert to equity under specific circumstances. They include several components that make them more complex than SAFEs:
Interest Accrual: Notes accrue interest at a specified rate (currently averaging 7% in the market), increasing the amount that converts to equity.
Maturity Dates: Notes have expiration dates, typically 18-24 months, after which they must either convert, be repaid, or be extended.
Conversion Rights: Similar to SAFEs, notes convert at favorable terms, but the accrued interest increases the conversion amount.
Repayment Obligations: If conversion doesn't occur by maturity, founders may face repayment obligations, creating potential cash flow challenges.
Decision Framework: When to Choose Each Instrument
The SAFE-Favorable Scenarios
SAFEs work best in specific founder and company situations:
Early-Stage Companies with Long Runway Needs: For companies that may take 18+ months to reach their next priced round, SAFEs eliminate the interest accumulation that makes convertible notes increasingly expensive. (Metal Finding Investors)
First-Time Founders: The simplicity of SAFEs reduces legal complexity and allows founders to focus on building their business rather than managing debt obligations.
Uncertain Timeline to Series A: When the path to a priced round is unclear, SAFEs provide flexibility without the pressure of maturity dates.
Standard Angel Rounds: For typical $250K-$1M angel rounds where investors are comfortable with SAFE terms, the instrument provides the path of least resistance.
The Convertible Note Advantage
Investor Preference in Certain Markets: Some geographic markets or investor types still prefer convertible notes, particularly international investors familiar with debt instruments. (UK Capital Gains Tax)
Bridge Financing Scenarios: When raising capital specifically to bridge to a known Series A round within 6-12 months, the interest accrual may be acceptable given the short timeline.
Regulatory Considerations: In some jurisdictions, convertible notes may offer clearer regulatory treatment than SAFEs, which are still relatively new instruments in many markets.
Investor Sophistication Requirements: Some institutional investors prefer the familiar structure of convertible notes, particularly those with specific portfolio construction requirements.
Cross-Border Tax Implications
International Founder Considerations
For founders operating across borders, the choice between SAFEs and convertible notes can have significant tax implications. The classification of these instruments varies by jurisdiction, affecting both founders and investors. (Israel Tax Authority SAFE Classification)
SAFE Tax Treatment: In many jurisdictions, SAFEs are treated as contingent rights rather than debt, potentially deferring tax implications until conversion. However, this treatment isn't universal, and founders should consult with tax professionals in their specific jurisdictions.
Convertible Note Tax Treatment: As debt instruments, convertible notes generally have more predictable tax treatment across jurisdictions, but the interest accrual creates ongoing tax implications for both parties.
US Tax Considerations: For US-based companies, both instruments generally receive similar treatment, but international investors may face different withholding and reporting requirements. (US Tax Review)
Term Sheet Templates and Key Provisions
SAFE Term Sheet Essentials
A well-structured SAFE should include the following key terms:
TermDescriptionTypical RangeInvestment AmountTotal capital being raised$100K - $2MValuation CapMaximum valuation for conversion$5M - $15MDiscount RateDiscount to next round price10% - 25%Pro Rata RightsRight to participate in future roundsOptionalMost Favored NationProtection against better future termsStandard
Sample SAFE Key Provisions:
Valuation Cap: $8,000,000
Discount Rate: 20%
Conversion Trigger: Series A Preferred Stock financing of at least $1,000,000
Pro Rata Rights: Yes, for investments >$25,000
Most Favored Nation: Standard provision included
Convertible Note Term Sheet Structure
Convertible notes require additional terms due to their debt nature:
TermDescriptionCurrent MarketPrincipal AmountInvestment amount$100K - $2MInterest RateAnnual interest rate6% - 8%Maturity DateNote expiration18 - 24 monthsValuation CapConversion ceiling$5M - $15MDiscount RateConversion discount15% - 25%Conversion RightsAutomatic vs. optionalTypically automatic
Sample Convertible Note Provisions:
Principal Amount: $500,000
Interest Rate: 7% per annum
Maturity Date: 18 months from closing
Valuation Cap: $10,000,000
Discount Rate: 20%
Conversion: Automatic upon Series A >$1,000,000
Dilution Analysis and Modeling
SAFE Dilution Scenarios
To illustrate the dilution impact of each instrument, consider a company raising $500,000 on a $8M valuation cap SAFE with a 20% discount:
Scenario 1: Series A at $12M pre-money
• SAFE converts at $8M cap (lower than $12M)
• Dilution: $500,000 ÷ $8M = 6.25%
Scenario 2: Series A at $6M pre-money
• SAFE converts at $4.8M (20% discount to $6M)
• Dilution: $500,000 ÷ $4.8M = 10.42%
Convertible Note Dilution Impact
Using the same $500,000 investment with 7% interest over 18 months:
Total Amount Converting: $500,000 + ($500,000 × 7% × 1.5) = $552,500
Scenario 1: Series A at $12M pre-money
• Note converts at $8M cap
• Dilution: $552,500 ÷ $8M = 6.91%
Scenario 2: Series A at $6M pre-money
• Note converts at $4.8M (with discount)
• Dilution: $552,500 ÷ $4.8M = 11.51%
The additional dilution from interest accrual ranges from 0.66% to 1.09% in these scenarios, demonstrating the compounding cost of convertible notes over time.
Investor Preferences and Market Dynamics
Understanding Investor Motivations
The choice between SAFEs and convertible notes often comes down to investor preferences, which vary based on investor type and experience. According to market research, different investor categories show distinct preferences. (Metal Investor Methodology)
Angel Investors: Generally comfortable with SAFEs due to their simplicity and alignment with early-stage investment practices.
Institutional Investors: May prefer convertible notes for their familiar debt structure and clearer legal framework.
International Investors: Often favor convertible notes due to more predictable treatment in their home jurisdictions.
Accelerator Programs: Typically use SAFEs for their portfolio companies, contributing to the instrument's widespread adoption.
Geographic Variations
The preference for SAFEs vs. convertible notes varies significantly by geography. In Silicon Valley and other US tech hubs, SAFEs have achieved near-universal acceptance. However, in international markets, convertible notes may still be preferred due to regulatory familiarity and established legal precedents.
Founders raising from international investors should consider these preferences when structuring their rounds. The choice of instrument can impact investor interest and the speed of fundraising processes. (Metal Pipeline Development)
Practical Implementation Strategies
Timing Considerations
The timing of your fundraise can influence the optimal choice between SAFEs and convertible notes:
Short Timeline to Series A (6-12 months): If you have clear visibility to a Series A round, convertible notes may be acceptable despite interest accrual, as the time cost is limited.
Uncertain Timeline (12+ months): SAFEs become increasingly attractive as the timeline extends, eliminating the ongoing cost of interest and maturity date pressure.
Market Conditions: In challenging fundraising environments, the simpler structure of SAFEs can accelerate closing processes and reduce negotiation complexity.
Negotiation Strategies
When negotiating terms, founders should consider:
Valuation Cap Setting: Set caps that provide meaningful upside for investors while preserving reasonable founder ownership through Series A.
Discount Rate Balance: Higher discounts can attract investors but increase dilution. The 15-25% range represents current market standards.
Pro Rata Rights: Consider offering pro rata rights to larger investors to encourage higher investment amounts and ongoing support.
Most Favored Nation Clauses: These protect early investors from being disadvantaged by better terms offered to later investors in the same round.
Advanced Considerations for Sophisticated Founders
Cap Table Management
Both SAFEs and convertible notes create complexity in cap table management that founders must understand. The conversion mechanics can significantly impact founder ownership percentages and employee option pool sizes. (Metal Series A Overview)
SAFE Cap Table Impact: SAFEs convert into preferred stock, typically the same class as Series A investors. This can create alignment between early investors and institutional investors.
Convertible Note Considerations: Notes may convert into different security types depending on their terms, potentially creating multiple classes of preferred stock.
Employee Option Pool: Both instruments can impact the size and timing of employee option pool creation, affecting overall dilution calculations.
Preparing for Series A
The choice between SAFEs and convertible notes can impact your Series A fundraising process. Institutional investors evaluating Series A opportunities will review your existing cap table structure and may have preferences for how early-stage investments were structured. (Series A Funding Challenges)
Clean Cap Table Advantages: SAFEs generally create cleaner cap tables with fewer complications for Series A investors to evaluate.
Conversion Timing: Understanding when and how your early instruments convert helps in Series A planning and valuation discussions.
Investor Rights: Early investor rights carried through SAFEs or notes can impact Series A term negotiations.
Technology and Tools for Decision Making
Dilution Modeling Tools
Founders should use sophisticated modeling tools to understand the long-term impact of their instrument choice. Several factors should be modeled:
Multiple Series A Scenarios: Model various Series A valuations to understand conversion outcomes under different scenarios.
Timeline Sensitivity: Analyze how different timelines to Series A impact total dilution, particularly for convertible notes with interest accrual.
Follow-on Round Impact: Consider how early instrument choices affect subsequent fundraising rounds and overall founder ownership.
CRM and Investor Management
Regardless of instrument choice, founders need robust systems for managing their fundraising process. Modern fundraising requires sophisticated investor relationship management, similar to sales CRM systems. (CauseVox CRM)
Effective investor management includes tracking investor preferences for different instruments, managing follow-up communications, and maintaining detailed records of term negotiations. These capabilities become particularly important when managing multiple investors with different instrument preferences.
Market Trends and Future Outlook
Evolution of Fundraising Instruments
The fundraising landscape continues to evolve, with new instruments and variations emerging regularly. The success of SAFEs has inspired other simplified instruments, while traditional convertible notes continue to adapt to market needs.
SAFE Variations: New SAFE variants address specific use cases, such as revenue-based SAFEs for certain business models.
Hybrid Instruments: Some investors are experimenting with hybrid instruments that combine elements of both SAFEs and convertible notes.
Regulatory Evolution: As regulators become more familiar with SAFEs, their treatment may become more standardized across jurisdictions.
Impact of AI and Automation
Artificial intelligence is beginning to impact fundraising processes, from investor matching to term optimization. AI-powered tools can help founders model different scenarios and optimize their instrument choices based on their specific circumstances. (AI Fundraising Assistant)
These tools can analyze vast amounts of market data to provide personalized recommendations for founders, taking into account factors like industry, geography, investor preferences, and market conditions.
Actionable Decision Framework
The Five-Factor Analysis
Founders should evaluate five key factors when choosing between SAFEs and convertible notes:
1. Timeline to Series A
• Less than 12 months: Either instrument viable
• 12-18 months: Slight preference for SAFEs
• 18+ months: Strong preference for SAFEs
2. Investor Base Composition
• Primarily US angels: SAFEs preferred
• International investors: Consider convertible notes
• Mixed investor base: Evaluate case-by-case
3. Regulatory Environment
• US-based company: SAFEs generally preferred
• International operations: Consult local counsel
• Cross-border complexity: May favor convertible notes
4. Founder Experience Level
• First-time founders: SAFEs for simplicity
• Experienced founders: Either instrument viable
• Complex cap table needs: Consider convertible notes
5. Market Conditions
• Competitive fundraising: SAFEs for speed
• Challenging markets: Flexibility may favor SAFEs
• Investor-favorable markets: Either instrument works
Implementation Checklist
Before finalizing your instrument choice:
• [ ] Model dilution scenarios for both instruments
• [ ] Survey key investors for preferences
• [ ] Consult with legal counsel on jurisdiction-specific implications
• [ ] Review tax implications with qualified professionals
• [ ] Consider impact on future fundraising rounds
• [ ] Evaluate administrative complexity for your team
• [ ] Assess alignment with company timeline and milestones
Conclusion: Making the Right Choice for Your Startup
The choice between SAFEs and convertible notes in 2025 isn't simply about following market trends - it requires careful consideration of your specific circumstances, investor base, and long-term strategy. While SAFEs have achieved dominance in the pre-seed market for good reasons, convertible notes still have their place in certain scenarios.
For most founders raising their first angel round, SAFEs offer the optimal combination of simplicity, cost-effectiveness, and investor acceptance. The elimination of interest accrual and maturity date pressure allows founders to focus on building their business rather than managing debt obligations. (Metal Author Profile)
However, founders with international investor bases, specific regulatory requirements, or unique timing considerations should carefully evaluate whether convertible notes might better serve their needs. The key is to make an informed decision based on data and analysis rather than simply following market trends.
As the fundraising landscape continues to evolve, founders who understand the nuances of both instruments will be better positioned to optimize their capital raising strategy. Whether you choose a SAFE or convertible note, the most important factor is ensuring the instrument aligns with your company's needs, investor preferences, and long-term objectives. (Metal Blog)
The decision framework outlined in this analysis provides a structured approach to making this choice, but remember that every startup's situation is unique. Consider consulting with experienced legal and financial advisors to ensure your instrument choice supports your company's success through its next phase of growth.
Frequently Asked Questions
What is the main difference between a SAFE and a convertible note in 2025?
The key difference is that SAFEs are equity-based instruments without interest rates or maturity dates, while convertible notes are debt instruments that accrue interest (typically around 7% in 2025) and have specific maturity dates. SAFEs now dominate 90% of pre-seed deals due to their simplicity and founder-friendly terms, but convertible notes may still be preferred in certain cross-border situations or when investors require debt-like protections.
When should founders choose a convertible note over a SAFE in 2025?
Founders should consider convertible notes when dealing with international investors who prefer debt structures for tax reasons, when raising larger amounts where interest deductions provide tax benefits, or when investors specifically request the additional protections that come with debt instruments. Additionally, convertible notes may be preferable in jurisdictions where SAFE treatment is unclear or unfavorable from a regulatory standpoint.
How do current market conditions affect the SAFE vs convertible note decision?
With interest rates holding at 7% and Series A funding becoming more selective in 2025, the cost of convertible note interest has increased significantly. Investors are more risk-conscious and require stronger benchmarks before Series A, making the conversion timeline longer and potentially increasing the total interest burden on convertible notes. This environment generally favors SAFEs for most early-stage fundraising scenarios.
What dilution considerations should founders evaluate when choosing between these instruments?
SAFEs typically result in less dilution since they don't accrue interest, while convertible notes can create additional dilution through accumulated interest at conversion. With longer timelines to Series A becoming common, the interest burden on convertible notes can compound significantly. Founders should model different scenarios based on their expected fundraising timeline and current market conditions to understand the true dilution impact of each option.
How do international tax implications affect the choice between SAFEs and convertible notes?
International tax treatment varies significantly between SAFEs and convertible notes. Some jurisdictions like Israel have specific stances on SAFE classification that may favor convertible notes for certain investors. Cross-border investments may face different capital gains treatment, and some international investors prefer the clearer debt classification of convertible notes for their own tax planning purposes.
What role does Series A preparation play in choosing between SAFEs and convertible notes?
Since Series A funding requires more strategic preparation in 2025 due to evolving investor expectations, founders need to consider how their bridge financing choice affects their Series A readiness. SAFEs provide more flexibility and fewer complications during due diligence, while convertible notes may create additional complexity with their maturity dates and interest calculations. The choice should align with the founder's Series A timeline and preparation strategy.
Sources
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4. https://www.causevox.com/crm/
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9. https://www.metal.so/author/usman-gul
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12. https://www.metal.so/blog/drivers-for-preseed-rounds
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