Why Do Related Party Transactions Matter in Financial Due Diligence?

Investors closely examine Related Party Transactions (RPTs) during due diligence because they can impact financial transparency and business integrity. While RPTs are common, lack of clarity can raise red flags. Here’s why they matter:

• Risk of Fund Misuse: Are company funds being diverted to entities owned by founders or key stakeholders?
• Distorted Financials: Inflated revenue or hidden expenses through related parties can misrepresent a true financial position.
• Lack of Transparency & Poor Governance: Failure to disclose related parties or transactions in the financial statements, along with inadequate approval and documentation, can indicate poor governance, lack of transparency, or even intentional misrepresentation.
• Regulatory Compliance: RPT disclosures are a mandatory requirement as per the provisions of Companies Act, Income Tax Act, and SEBI regulations. Any non-disclosure may result in legal and tax complications.

Pro Tip: Always document RPTs properly, ensure they are at arm’s length, and disclose them in financial statements.

How does your company manage related party transactions? Share your experiences or ask your questions in the comments!

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Priya Kapasi Shah

Associate Partner | Tax & Regulatory | priya.k@server5.the-treelife.com

Heads Treelife’s Financial Advisory practice, specializing in investment structuring, cross-border transactions, and tax and regulatory advisory. Also leads on AIF setups and advisory services for GIFT IFSC.

Rohit Gandhi

Senior Associate | Tax & Regulatory | rohit.g@server5.the-treelife.com

Specializes in financial due diligence, valuations, business structuring, and income tax advisory. Contributes to the Financial Advisory team by helping startups and businesses make informed strategic decisions.