March 7, 2023

Token Sale Agreement: How to Use a TSA in Treasury Fundraising Rounds


In this guide, we want to give Web3 founders a broader perspective on all the different ways of using token sale agreements for selling their tokens. The main consideration we’re going to focus on is the level of a project’s decentralization, i.e. whether it plans to form a DAO or not, as this factor greatly affects the terms of the token sale agreement and how it’s used.

When does the token sale need to happen? What are the key terms of a token sale agreement? What role does it play in a decentralized project’s development? What steps do Web3 founders need to take before using it? Read on to uncover the answers. 

You can now download and use a token sale agreement that has been specially prepared by the Legal Nodes team. The template is completely free to download and use however you wish. The template is created for founders who are working to develop a decentralized project. Remember, always consult with a qualified legal specialist before using the template.

Please note, everything contained in this article as well as the token sale agreement template is for informational purposes only and is not to be considered as legal advice or legal opinion.

This guide and template are brought to you by the Legal Nodes team. Legal Nodes is a legal platform that helps global businesses and Web3 projects build cross-border legal structures, solve global legal tasks and stay compliant with evolving regulations. We’ve helped many Web3 projects with legal strategies and company incorporations. Speak to us to get started with structuring your fundraising process.

How a project’s decentralization strategy affects the structuring of token sales

Before considering which might be the most suitable document to use when fundraising through the sale of tokens, it is important for the founders of a Web3 project to choose a long-term strategy for the development of their project. This strategy can have a significant effect on the key terms of the token sale, which would need to be specified in the token sale agreement. 

Choosing a strategy isn’t as complicated as it sounds; there are in fact two common roads that a founder may take:

  1. A centralized strategy, where the tokens serve as an on-chain representation of online services or e-Commerce projects. The tokens are sold as pre-paid subscriptions, access keys, activation codes, on-chain vouchers, membership tickets, etc. Here, the demand and supply of tokens are managed by the project’s team.
  2. A decentralized strategy, where the tokens, in addition to utilities within the protocol, also have utilities (for example, governance rights) within a DAO. Here, the DAO coordinates both the development of the protocol and the future use of the tokens.

Moving forward, let’s explore the key differences between the two strategies, as well as how they affect the structuring of the token sale. After that, we’ll consider the specifics of the token sale agreement and its key terms, which require attention from the founders of Web3 projects when they are planning a token-based fundraising.

Are you looking for help and documents for structuring early-stage fundraising rounds? You might be interested in our guides and templates on the token side letter and the token warrant for pre-seed rounds, and the SAFT (simple agreement for future tokens) for seed rounds.

Structuring the token sale under a centralized project development strategy

When the first, centralized, path is chosen, the issuance of tokens and management of the token treasury is fully controlled by the project’s team. The tokens themselves usually possess the following characteristics:

  • they do not give their holders any governance rights
  • they are not listed on the platforms where the price of the tokens may be speculated, for example, on exchanges. This is because if they are listed there is a very high chance that they will be qualified as securities
  • their release and burn (and the supply and demand accordingly) are controlled by the project’s team
  • they are normally present in the projects without a DAO. In fact, the entire project is managed in a centralized way. At the very least, if there's a DAO, it doesn't have a treasury and does not control the emission or burning of tokens in any way.

In this case, the tokenomics of the project is rather “basic”. There is little to no difference between their native tokens and online services sold by Web2 e-Commerce companies, except that the register of online services and transactions from their sale is stored with the help of blockchain technology. An important additional observation is that the token capitalization does not affect the company's valuation, as investors are usually primarily interested in shares of the token-issuing company. The tokens, on the other hand, are of interest to clients and users, who receive services within the framework (ecosystem) of a given project.

How to incorporate a token sale agreement into a centralized project strategy

In a centralized strategy scenario, the token sale agreement does not differ much from the Terms & Conditions of traditional SaaS projects that sell subscriptions to cloud-based software, or End User License Agreements used to sell license keys to on-premise software. Those documents are usually published or signed by the company developing the software product. Since there are some established practices that already exist on how to legally structure these kinds of projects and sell their digital services, we won’t cover that here. Instead, let us move on to uncharted waters of decentralized project strategies.

How to structure a token sale under a decentralized project development strategy

When it comes to a decentralized strategy for issuing and selling tokens, the process usually follows a four-stage process:

  1. First, the DevLab company is registered. This is the company that will develop a decentralized application and a protocol, which will mint native tokens for the application.

    This entity will also develop the project’s tokenomics, which are the rules of how the tokens will function within the framework of the protocol and the decentralized application. The DevLab is the company that is used to sign agreements with team members and founders who will become the shareholders of this company. The company will also sign agreements with the early team members who act as contractors or employees of the company. Ultimately, the DevLab is a tool for legally structuring agreements with the team and the project’s core contributors, i.e. the people who are actually developing the dApp, the token minting protocol, and the tokenomics.
  1. Next, a Token SPV (Special Purpose Vehicle company) is formed. This usually happens when the protocol has been launched and tested on the testnet and its readiness for deployment on the mainnet has been validated. The goal of the Token SPV is to deploy the token protocol or to reach an agreement with the network validators who will launch the protocol in a decentralized way. The Token SPV will also pre-mint tokens and distribute part of the tokens amongst the core contributors holding token options and early investors with token warrants and SAFTs or ensure that there will be a smart contract that will distribute the pre-minted tokens autonomously and in accordance with  the token cap table.
  1. The third step comprises two substages:
  • A private token sale, the purpose of which is to attract the first liquidity providers to grow the protocol, as well as additional funding for preparing and running a public token sale, with the help of which the primary community of tokenholders is built.
  • A public token sale, which can be either paid, (and will be an IDO/LBP/ISPO) or unpaid (in which case it is organized as an airdrop), or a combination of the two (paid and unpaid).

    The third stage is what is usually called a treasury round, since it is when the primary community of tokenholders is formed, and the primary liquidity is attracted to the ecosystem of the protocol, which will be later managed by the DAO as its own treasury.
  1. At the fourth stage, primary tokenholders are merged into the DAO with its own treasury. This occurs after the Token SPV has completed the initial token release and partial distribution of tokens. After the DAO is formed, it becomes a legal successor of the Token SPV. The Token SPV transfers unallocated tokens and the liquidity raised from the private token sale and public token distribution to the DAO treasury. From this moment on, the DAO takes control of the protocol, tokens, and liquidity, while the Token SPV, having completed its tasks and served its purpose, is closed (liquidated).

The DAO as a final stage of a project’s decentralization

The conclusion of the fourth stage marks the transformation of the project into a fully decentralized organization; the DAO is brought to life. This decentralization strategy is significantly different from the centralized sale of tokens. Among other things, in the case of the DAO, the main asset that determines the company’s capitalization is the project’s token, while the project itself becomes ownerless.

After the DAO is launched, the following things happen:

  1. The DAO adopts its own constitution, which describes the decision-making process and affirms the governance rights of the tokenholders.
  2. The DAO divides its treasury tokens into pools, including the strategic reserve, staking or liquidity pool, and community incentive pool, etc.
  3. Part of the token pools are distributed and managed in a fully-decentralized way with the help of autonomous & permissionless smart contracts, such as staking pools, community incentives, etc. At the same time, the strategic reserve, which is often used to attract large liquidity providers and new investment rounds, requires some centralized management.
  4. The DAO votes on the registration of the foundation. The DAO also votes on the appointment of a board of directors and a supervisory board or supervisors for the centralized management of the strategic reserve. The foundation receives ownership of a strategic reserve of tokens from the DAO in order to attract additional liquidity and investment to the ecosystem of the protocol developed by the DAO in the future.

Understanding how the token foundation attracts liquidity and investments is a separate topic, which we will explore in another article soon. For now, let us focus on the treasury round, which is part of the third stage of the project’s decentralization journey. In particular, it's important to understand how token sale agreements are used to structure this round. 

Untangling the treasury round

As explored above, the treasury round marks the stage when the treasury of the future DAO begins to form by virtue of the initial ecosystem liquidity gleaned from private and public token sales. It is also when the primary community of the tokenholders (that will later be transformed into the DAO) is formed.

To achieve this, a token sale agreement (TSA) is used to raise initial ecosystem liquidity during a private token sale. The public token distribution can be structured in various forms, which often depend on the blockchain network, in which the protocol is launched. Examples include a token generation event (TGE) in Ethereum and Polygon, a liquidity bootstrapping pool (LBP) in Cosmos, or an initial stake pool offering (ISPO) in Cardano.

What is a token sale agreement (TSA)? 

A token sale agreement is a contract used to sell native tokens of the protocol to investors. It is a relatively straightforward document, which is, in its essence, a standard purchase-sale agreement. The only thing that sets it aside from Web1 and Web2 documents is the assets that are being sold. In the case of the TSA, these are on-chain digital goods or assets. The TSA is signed between a purchaser and either the Token SPV or the Token Foundation (we aim to explore this in future articles), if the project is sufficiently decentralized. 

What you need to know before signing a token sale agreement  

When the token sale agreement is signed, the token usually only has utility within the framework of the protocol or the dApp. Additionally, there are no governance rights attached to it; these rights can be assigned to the token at a later stage when the community of tokenholders will ratify the DAO constitution. 

It is important to note that the launch of the token takes place after the launch of the protocol or together with it. Otherwise, it becomes obvious that the token is sold for the purpose of fundraising, and as a result, the token would have a high risk of being considered security.

What are the key terms and features of the token sale agreement? 

Unlike other Web3 fundraising documents, such as the token side letter or the SAFT, there are no conversion formulas underlying a TSA. Therefore, no complex mathematical operations are required to compute the tokenholding of liquidity providers, as the number of the tokens sold is actually specified in the agreement directly. The percentage of the liquidity providers’ token holding is determined in the Token Cap Table by dividing the number of the tokens sold to the total amount of tokens issued, or by the hard cap (if there is one).

An important feature of the token sale agreement is the lock-up of tokens. To avoid the depreciation of the token’s price, the purchasers will only be allowed to dispose of their tokens after the lock-up is gradually lifted. Normally, the terms of the lock-up include a cliff and periodic vestings, for example, a lock-up of 1 year and monthly vestings over the second year.

What are the legal considerations for structuring a private token sale?

One of the most important provisions of the TSA are the terms that describe what the token is, and when and how token holders will be able to use it after signing the TSA. These provisions will be the basis for determining:

  • the regulatory compliance of tokens, meaning, whether the token will or will not be recognized as a security.
  • the financial compliance of transactions with tokens and cryptocurrencies to avoid a situation where tokens will be used for money laundering or other financial crime.
  • the tax status of the token: how the tax authorities will qualify transactions with tokens, and, accordingly, what tax rate will be applied to the proceeds from the sale of tokens.

These provisions also serve as criteria for choosing a jurisdiction where the Token SPV will be registered. To date, unfortunately, only a very small number of jurisdictions have clarified the legal qualification of tokens and the tax consequences of operations with them, including Switzerland, Liechtenstein, and the BVI. In most cases, best practices include obtaining a Token Legal / Tax Opinion in the proposed country where the Token SPV will be registered and checking for regulatory requirements for obtaining approval (as is the case in Switzerland, for example) or a special license for issuing tokens (as is the case in Liechtenstein).

It is important to keep in mind that the problem of regulatory compliance in most cases concerns not only the jurisdiction of Token SPV registration (in which token regulatory approvals and token legal opinions may be needed), but also in the jurisdictions where tokens will be sold. For example, if the Token SPV is registered in Switzerland, and the project plans to sell tokens in the U.S., founders would be wise to obtain legal advice regarding the sale of tokens in the US.

How to use the special purpose vehicle (SPV) to sell tokens

To summarize the section above into a neat little checklist, before signing the first private token sale agreement, the founders of Web3 project have to:

  1. Choose a favorable (token-friendly) jurisdiction for Token SPV registration
  2. Take care of compliance requirements by:
  • Receiving the Token Legal Opinion or the token regulatory approval in the country where the Token SPV is located.
  • Getting legal advice on the requirements for the sale of tokens in foreign markets, including verifying the special status of investors (accredited, qualified investors, etc.).
  • Getting advice and developing processes for verifying the identity of purchasers / liquidity providers (KYC and KYB).
  • Integrating tools for checking the “purity” of assets used by investors to purchase tokens (on-chain AML analytics).
  • Receiving a Tax Opinion on how the tax office will qualify the funds received from the sale of tokens and what would be the applicable tax rate.

Alternative token sale methods

An alternative route to organize the sale of tokens is to use licensed intermediaries (regulated custodial launchpads), which take care of compliance procedures in exchange for a success fee from the funds received by the project. Examples of those platforms include LCX, Coinlist, and NextSeed.

Is a token sale agreement right for your fundraising strategy?

To sum up, the token sales process and the use of token sale agreements differ a lot depending on whether the project is centralized or decentralized and what utilities the token will have (pure service utilities or protocol utilities and governance rights). 

With decentralized projects, token sale agreements are used during a treasury round to attract liquidity to the ecosystem and form a DAO treasury. The token sale agreement is signed by either a Token SPV or a Token Foundation. The Token SPV is the entity used for the initial token distribution. A Token Foundation is an entity formed after the DAO’s creation, to which the DAO delegates the strategic (ecosystem) tokens fund, and which holds it in trust and manages it on behalf of the DAO and in the best interests of the ecosystem.

A token sale agreement alone is usually not sufficient to fully structure a treasury round. It goes hand-in-hand with the analysis of regulatory requirements, integration of sufficient anti-money laundering processes, and determining the tax consequences of the token sale.

All these regulatory requirements and essential company registrations (Token SPV, DAO Company, etc.) make it quite a difficult process for Web3 founders to manage. 

At Legal Nodes, we help Web3 founders structure their fundraising process. We do this by helping founders first work out what fundraising options are best for them, and then provide the tools to bring their fundraising strategy to life.

From concept to successful fundraising round, we help by:

  • Clarifying all your different legal needs and options through legal strategy sessions.
  • Structuring the fundraising process into specific legal tasks like registering a Token SPV, obtaining Token Legal Opinion, preparing the token sale agreement, etc. 
  • Selecting the best legal providers, each locally-based in their own jurisdiction, for each task.
  • Managing the workload, including meeting deadlines, communicating with service providers, and quality checking all works, ensuring everything is in compliance with the ever-changing crypto regulations.

Speak to us to learn more about how we could help your project with legally structuring your fundraising round. 

Disclaimer: the information in this guide is provided for informational purposes only. You should not construe any such information as legal, tax, investment, trading, financial, or other advice. Mentioning any of the assets in this article is not an endorsement to purchase them.

Legal Nodes does not assume responsibility for the contents of any templates or documents in any form that are provided on the Legal Nodes website. In addition, Legal Nodes does not assume responsibility for the consequence of using any version of the templates found on our website. You should consult with a legal specialist such as a lawyer, who is licensed in the country where the documents might apply. You can speak to the team at Legal Nodes to find out more about how we can help you use these documents.

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