Thread by @wassielawyer

1/ Foundations for Web3 projects - what they are, what they are not and why you even use them.

In crypto law, the 'foundation' is one of the least understood and most expensive products sold to founders.

Oftentimes, it feels like most lawyers themselves do not understand it.

2/ Firstly, why are foundations a thing in Web3? What are we actually solving for by having them around?

The main reason is to solve for the problem of token issuance. But to understand why this is a problem, we must first briefly explain the structure of most Web3 projects.

3/ Presently, most Web3 projects incorporate what is known as a 'LabsCo' or 'DevCo', oftentimes in jurisdictions like Delaware or Singapore.

These jurisdictions are conductive to running a company that develops tech. There are Y-combinator model SAFEs for these jurisdictions...

4/ they provide easy access to banking, corporate services are relatively efficient, legal infrastructure is well-developed etc.

Founders of Web3 projects would often be the shareholders of this LabsCo, raising money out of a SAFE + Warrant (we can discuss SAFTs separately).

5/ But one thing that you absolutely should not do is start issuing tokens out of Delaware or Singapore. Issuing tokens out of the US is an absolute no-no, and Singapore's virtual asset laws aren't great for issuances either.

You normally can't and shouldn't shit where you eat.

6/ This represents an issue for Web3 projects because your business model is literally (a) raise money to build tech (or throw parties), (b) burn money for a few years and finally (c) launch a token, so that your investors can realize profits and team can make money.

7/ Is is very rare that your LabsCo will ever make significant revenue, and rarer still that you will be in profit until the token is launched.

So you kind of have to launch the token. So how do you launch it without going to jail or fucking up your taxes?

8/ This is where the 'foundation' structure comes in. It is meant to be an offshore token issuance and governance structure that supposedly takes liability away from founders.

The two most common forms are (a) the Panama Foundation + company and (b) the Cayman-BVI structure.

9/ The reasoning is meant to be as follows.

Token issuance from LabsCo bad. Founders are in LabsCo. We need a structure to issue tokens unconnected from LabsCo.

The best way to do this, is to issue the tokens in a jurisdiction that (a) allows you to issue tokens...

10/ (b) is unconnected to LabsCo and (c) is unconnected to the founders.

The reason Panama and BVI are chosen as token issuance jurisdictions is because Panama has no virtual asset laws while BVI has favorable virtual asset laws that allow token issuance.

This solves for (a).

11/ Now solving for (b) is also pretty easy, although I sometimes see lawyers fucking this one up. Just don't issue the damn tokens out of the LabsCo or put your token issuer under the ownership of LabsCo.

(c) is often the problematic bit which many lawyers fuck up.

12/ If the LabsCo doesn't own the Token Issuer, who does? This is where the concept of a 'foundation' comes in. A foundation is supposedly an ownerless entity which makes it a suitable candidate to own the issuer.

Great, so we just have an ownerless foundation and donezo right?

13/ If only it were that easy.

Introduce the concept of UBOs - ultimate beneficial owners. This refers to a natural person that ultimately owns the assets of a legal structure or in the absence of that, the natural person who can exercise ultimate effective control.

14/ UBOs matter because these persons may (a) affect the tax treatment of the legal structure or be taxed themselves on the activities of the structure, (b) be held personally responsible for certain actions of the legal structure, (c) provide countries jurisdiction over the...

15/ structure and (d) have to be disclosed to certain national registers and/or commercial counterparties (such as exchanges, banks, financial institutions etc) as part of a KYC/AML exercise.

In a usual company structure, the UBO are the shareholders.

16/ If the company makes money, they benefit from their equity value increasing and they also control the company indirectly because shareholders get to hire and fire directors.

This is easy enough.

But how about a supposedly 'ownerless' foundation?

17/ This is where we dive into the two different foundation structures normally used.

The Panama Private Interest Foundation (PIF) is a structure often used for estate planning that has been repurposed as a low-cost token issuance structure for Web3 projects.

18/ It is controlled by a foundation council of three people (who are often random Panamanian nominees sometimes with a founder) with control exercised either by the beneficiary who owns the assets (who may be the founders) or the enforcer (also often the founders).

19/ In the PIF, the UBO is likely the beneficiaries or the enforcer, because they have the power to control the assets.

In pretty much all of the Panama setups I have seen, the UBO is the founder themselves. Sometimes (hilariously), the founders own all the 'DAO's assets.

20/ Now the Cayman Foundation Company.

The Cayman Foundation Company exists for a stated objective and is managed by at least one director. For Web3 companies, its purpose is often something like "support the growth and development of the XYZ ecosystem".

21/ Without members or shareholders, the power to appoint or remove directors vests in a 'supervisor' who ensures the director is acting in line with the foundation's objectives..

Usefully, the law prevents distribution of assets or income to directors or supervisors.

22/ The UBO of the Cayman Foundation Company is thus often the supervisor.

Given the restriction on distributions, the supervisor is often a corporate services company that charges 5 - 10k USD a year to fulfil this role.

It is often not recommended that the founders act as...

23/ director or supervisor of the Cayman Foundation.

For completeness, the Cayman Foundation is often used with a BVI company because the BVI has more favorable laws for token issuances.

In either case, your main objective is to ensure the founders are not UBOs.

24/ This is often far better achieved with a Cayman Foundation instead of Panama because Cayman Foundations have professional directors and supervisors that are willing to take on the risks associated with being managers and UBOs.

The Panama structures often operate via nominees

25/ which don't entirely solve the UBO problem. Just because a different person's name is put down as a member / enforcer doesn't mean you aren't the UBO if you ultimately control them, even via some sort of services agreement.

In other words, Panama often works by obscurity.

26/ They work because it is supposed to be difficult to figure out who is behind the structure, but if it is found out, that person will ultimately be considered the UBO of the structure.

This doesn't mean the Cayman structure is perfect either. For it to properly work...

27/ you need to have an actually independent director and actual third party supervisor. You can't just shove some patsy on there and expect it to work.

So how do the founders 'control' the foundation then. Does it mean the director can do anything?

28/ No. The director has to act within the objects of the foundation (and its bylaws, if any). They can't distribute assets to themselves, so that solves for the rug risk.

And since the persons closest to the project are probably the founders, the directors can consult with...

29/ the founders who can provide advice and other related services. As long as this advice is reasonable, the director has no reason to disregard it.

Again, this doesn't mean that Cayman is always better than Panama, because better has different meanings.

30/ Sometimes you do use Panama, even with a Cayman structure for virtual asset law reasons (this is for another day). But oftentimes, the reason founders use Panama is because of cost.

The cost of doing it properly is high. Probably not as high as you think, but if you...

31/ are running a simple Cayman-BVI set-up with a professional director, you should probably budget at least USD 50 - 70k. You can get Panamanian setups for around USD 10 - USD 15k, sometimes less.

So sometimes founders take the view that cost is more important and obscurity...

32/ is ok for now.

But the other main misconception is this - what is the timing for setting up this structure?

The timing is actually before your TGE. Lawyers may try to sell you the packages ASAP but you should not use your seed raise to set up a foundation.

33/ As a founder, your main priority is to actually build the damn project before spending high 5 figs - 6 figs on legal structuring. If you have already found some success and you know you are going to market in 3 months, that's when you start thinking about foundation setups.

34/ I could go into more detail (and I really want to) but I realize this is already one of my longest threads ever, and fully covering it probably requires an actual full-length article (or 100+ post-thread).

But perhaps if you have made it this far, the key takeaway is...

35/ with a foundation structure, the main issue you would be solving for is the UBO problem. You do not want your founders to be UBO.

But if you take a view that genuinely not making them UBOs is too expensive, you might conclude that as long as nobody knows or cares, its ok.

36/ But make sure your lawyers actually explain to you how this works so that you can properly price the risk. Also, this is often a decision that needs to happen pre-TGE, not when you first fundraise (although we need to talk about SAFTs separately).

37/ Going to actually end the thread here.

Fairly certain I might get flooded by DMs but if you want to discuss anything, easier to hit up @Vigil_eth to set up a time to chat.

Not legal or financial advice. Entertainment purposes only.

@Vigil_eth 38/ Adding this because important. I was gonna do another 30 posts on taxes because it’s probably the most practically relevant issue when it comes to foundation structuring.

Until I get around to that please seek tax advisor.