Related party transactions are scrutinised more heavily in audit than third-party deals. The arms-length test, the disclosure requirements, and the risk of fraud or non-compliance are all elevated. Here is how to handle them.
What you'll learn
→ Identifying related parties → What gets disclosed → Testing arm's length → Common pitfallsIdentifying related parties
Related parties include: shareholders with significant influence (typically >20% ownership), board members, key management personnel, immediate family of those people, entities controlled by them, and entities under common control with your company.
Maintain a related party register. Update annually. Include addresses, family relationships where relevant, and the nature of the relationship. The register is the auditor's starting point for testing.
What gets disclosed
IFRS requires disclosure of: the nature of the relationship, the volume of transactions, the balances at year-end, the terms (including security taken or given), and any provisions made for doubtful amounts. Disclosure is per related party type, not aggregated.
Compensation of key management personnel must be disclosed separately (salaries, bonuses, post-employment benefits, share-based payments). Auditors test disclosure completeness against the related party register.
Testing arm's length
Related party transactions should be on terms equivalent to those that would have applied with an unrelated party. Auditors test by comparing pricing to third-party comparables, examining contracts, and reviewing the business rationale.
Where transfers happen at non-arm's length prices, the difference may need disclosure as a profit distribution or a capital contribution, depending on direction. Tax implications can also follow under transfer pricing rules, coordinate with your tax advisor.
Common pitfalls
Forgetting that the controlling shareholder's other companies are related parties. Forgetting that close family members of a key director are related. Treating an interest-free loan from the parent as 'no transaction' rather than a deemed gift requiring disclosure.
Auditors are increasingly using public registries and beneficial ownership databases to identify undisclosed related parties. The work-around of 'we did not know' is no longer credible. Maintain the register actively.
This guide is general information, not professional advice. For situations that involve specific facts, talk to your accountant, or hire one of ours from the marketplace.