Pre Due Diligence Review
Overview 📘
Before an investment or acquisition, investors will scrutinise every area of your company to uncover potential risks, compliance gaps, or financial inconsistencies - often as a way to negotiate a lower valuation.
By preparing early and addressing these areas proactively, you can strengthen your position, protect your company’s value, and move through the due diligence process with confidence.
1. Director Expenses
Investors will assess whether director expenses are reasonable, transparent, and properly taxed.
In early-stage startups, where founders are often directors and there’s no formal board oversight, scrutiny is even higher.
They’ll look for:
- Personal or excessive expenses charged to the company
- Home-working allowances or benefits not taxed correctly
- Lack of documentation or HMRC reporting
📘 Tip: Maintain clear records and ensure all director benefits are declared correctly to avoid red flags.
2. Permanent Establishment
If your company operates internationally, investors will want assurance that no accidental taxable presence (“permanent establishment”) has been created overseas.
This risk arises if you:
- Employ or contract sales staff based in another country
- Lease office space or carry out operations abroad
Any such activity could create a tax liability in that jurisdiction, even if unintentional.
3. Off-Payroll Working (IR35)
Are you using contractors who should really be employees?
The off-payroll working rules (IR35) are complex but crucial - especially for startups that rely heavily on freelance or consultant talent.
If HMRC deems a contractor to be a “disguised employee,” your company could owe backdated PAYE, NIC, and penalties.
📘 Tip: Review all contractor arrangements and, where possible, use written contracts that reflect genuine self-employment.
4. Record Keeping and Governance
Investors expect to see clean, complete financial and governance records. They’ll check:
- Whether receipts and invoices are properly filed
- Whether signed board minutes exist for key decisions
- Whether share certificates and statutory books are up to date
Poor documentation not only delays due diligence but can reduce confidence in your internal controls.
5. Company Registers and Shareholder History
Ensure all share transactions are accurately documented at Companies House.
This includes:
- Share allotments, transfers, and buy-backs
- Share option exercises or cancellations
- Any share gifts or unusual transactions
If documentation is missing or inconsistent, investors may question ownership structure and compliance.
6. Company Option Scheme
If you have an employee share option scheme, investors will check that:
- HMRC notifications were filed on time
- Option agreements are properly executed
- Scheme rules comply with EMI or unapproved scheme requirements
Incomplete or late filings can jeopardise the tax advantages of the scheme, which is often a red flag in due diligence.
7. Revenue Recognition
Revenue recognition is a key accounting risk area - especially for SaaS and subscription-based businesses.
Questions to consider:
- Are you recognising revenue in line with delivery (e.g. over a licence period) rather than upfront?
- Are deferred revenue balances accurate?
- Do your accounting policies match your customer contracts?
📘 Tip: Review your revenue recognition policy against IFRS 15 / FRS 102 Section 23 standards before due diligence begins.
8. Loans to Directors
Loans to or from directors are closely scrutinised, as they can create tax charges under the Corporation Tax Act 2010 if not handled correctly.
Investors will review:
- The size and purpose of any director loans
- Whether Section 455 tax has been paid on overdrawn accounts
- Loan agreements and repayment history
🔗 HMRC guidance on director loans
9. VAT Risks
VAT compliance becomes more complex for international businesses.
Key risk areas include:
- Selling to B2C customers in the EU, which may trigger VAT OSS reporting
- Confusing B2B vs. B2C treatment on digital services
- Incorrectly applied VAT rates on cross-border transactions
If most of your customers are UK-based, the risk is low - but global expansion requires closer attention.
10. R&D Claims
Investors often review R&D tax relief claims carefully to ensure compliance and sustainability.
Ask yourself:
- Were claims prepared by a qualified specialist?
- Are claims fully documented with technical justifications?
- Are you within HMRC’s 12-month enquiry window for review?
Using unqualified third parties or overstating eligible work can expose you to risk and undermine investor confidence.
How Barnes & Scott Can Help
Our team can carry out a pre–due diligence review to identify and resolve potential red flags before investors or acquirers begin their audit.
We’ll examine your:
- Finance systems and internal controls
- HMRC filings and compliance processes
- Tax and R&D positions
- Governance and shareholder documentation
With experience across startups, scale-ups, and major acquisitions, we’ll help ensure your business stands up to investor scrutiny - and retains the valuation it deserves.
📩 Contact us at team@barnesandscott.com to arrange a pre–due diligence assessment.