• Questions
• Actions
• Background
• Advice
• Appendix - Investor agreements
• Arctic
• Horus/Bios
• Forma
• Graveyard
• Old table - ignore
• General
• TLL NOTES

Questions

• Does NSG need to charge Oituk or TSS the costs it has incurred? If so, how will it apportion? Seems complicated!
• 10% margin ok?
• We will always have a VAT payable for the first period? Is that ok?
• See board minutes
• Should we not include clause 3.8 in the write-up?
• Include the fact that you’ve reviewed the other agreements?
• Can we claim for the costs going back to 28 June even if VAT is registered
• Check board minutes ok?
• Should I just resign as a director of NSG?

Actions

• Ask Meriel to issue all Tern invoices specifically with the words “Consultancy Services”
• Setup the following management agreements for the NSL Group dated 1 Dec 2024. This allows TCL to charge a single fee to NSL and for NSL to charge each portfolio company based on approx revenue split.
• TCL and NSL
• NSL and OIL
• NSL and TSS
• NSL can recover VAT for up to six months prior to registration even though the management agreement between TCL and NSL is only set up to take effect in Dec 2024
• £7K input VAT. Exceptional charge for legal costs of £35K+VAT invoiced on 28 Jun 2024 (NB we didn’t claim the VAT—rightly so). This is cost incurred by NSL to negotiate the purchase of TSS.
• £7K output VAT. NSL will charge TSS for transaction costs for £35K+VAT. Invoice dated 1 Nov 2024.
• Starting from December, TCL will stop charging OIL and charge NSL collectively a single fee to NSL (£16.7K for OIL + £6.25K for TSL) who will recharge to OIL and TSS respectively with a £500 monthly margin (similar to FIL)
• TCL charges to TSS
• TCL has not charged TSS for its services for Jun 2024-Nov 2024 which is charged at £6.25K per month. TCL raise a one-off invoice to TSS for £37.5K+VAT for Jun-Nov 2024. (NB. There are no common directors between TCL and TSS so this shouldn’t be an issue)
• Setup the following management agreements for the FIL Group (NB. there is already a management agreement between FIL and CADS)
• FIL and SIL.
• FIL and MBP
• Do we need to modify the existing management agreement between FIL and CADS?
• FIL should re-charge all the costs it has received (outside of TCL’s costs) and recharge it to the three subsidiaries and (cash settle them or can it be accounted for through intercompany?).

Background

Consulting fees

• Karthik Dasari (KD) is the sole director and 90% shareholders of Tern Capital Limited (TCL).
• TCL provide consulting services to its clients (”PortCos”) to improve their businesses through value creation activities (sales effectiveness, technology, financial rigour, systems and processes, talent). TCL also helps identify acquisition targets for the PortCos.
• TCL has both employees and contractors to provide services to its clients. TCL provides a “basket of services” in relation to its expertise to its clients.
• TCL charges a consulting fee for the above activities to the following entities:
• Arctic Innovations Limited (FIL) (£11.5K + VAT). In turn, Arctic Innovations recharges Meta Broadcast Limited (MBL) £5K+VAT. This is governed by two back-to-back consulting agreements.
• Forma Innovations Limited (FIL) (£15.5K+VAT). In turn Forma Innovations Limited recharges C A Design Services Limited (CADS) £15.5K. This is governed by two back-to-back consulting agreements.
• Oituk Limited (OIL) (£16.7K+VAT). This is governed by a consulting agreement between TCL and OIL.
• The diagram below summarises the various shareholding, voting rights and common directors as of October 2024. Historically:
• KD was director of Oituk Limited between 30 May 2022 and 20 Sep 2023 and therefore a common director with TCL during this period.
• KD was director of Meta Broadcast Limited between 21 April 2017 to 14 Dec 2023 and therefore a common director with TCL during this period.
• All entities in this chart are registered in England & Wales i.e. there are no foreign entities.

Acquisition structure

• Karthik Dasari (KD) owns 100% of Sterna Holdings Limited (SHL).
• SHL makes acquisitions of software companies by co-investing with other investors.
• If there are add-on acquisitions to existing platforms (e.g. through FIL, HHL or AIL or TopCos), SHL along with other co-investors will lend money into these TopCos who will use these funds to pay sellers.
• If there are new platform acquisitions, a new TopCo will be set up and SHL (and other co-investors) will be shareholders and lenders into the TopCo using a similar structure below. SHL is expected to have a minority shareholding and majority voting rights when it makes new platform acquisitions (as it is below with the existing platform acquisitions).
• The investment/shareholders agreements between SHL and other shareholders allow any consulting companies controlled by KD (i.e. TCL in this case) to charge a fixed fee. Any changes to the fees need to be agreed in advance with the investors.

Advice

Common directorship - KD

• There are two reasons why TCL charges to any company in the PortCo group should attract VAT for its services
• There is an investor/shareholders agreement that explains that TCL could charge the PortCos a consulting fee
• There is an understanding that KD (as Principal) will managing the affairs of each PortCo group. This implies that KD may also be a Statutory Director of the individual companies
• More specifically:
• AIL Group - agreement in Feb 2017 clarifies that Tern Capital is allowed to charge a maximum of £200K for monitoring fees to Telsis Innovations. See Attachment 1. (Simple two page letter, see last paragraph on page 1).
• NSL Group - investor/shareholder’s agreement (at HHL level) says that KD (Principal) controlled companies can charge a fee. It also mentions that any KD shall not charge any fees personally to any companies in the group. See Attachment 2. (NB. This is almost identical to the FIL investor’s agreement - see clause 3.8)
• FIL Group - investor/shareholder’s agreement says that KD (Principal) controlled companies can charge a fee. It also mentions that any KD shall not charge any fees personally to any companies in the group. See Attachment 3. (NB. You have already reviewed this)
• In all the above cases there is an understanding that KD (Principal) will be managing the affairs of the PortCo and therefore he may take a Statutory Director position of one or more companies in each PortCo group.
• General notes
• If there was common directorship issues, HMRC tends to look at the salary/benefits taken by the common director i.e. KD’s salary/benefits taken from TCL.
• This amount is then pro-rated to the different companies with 0% VAT. e.g. if KD’s salary and benefits are £30K per annum, then arguably, £10K per annum x 3 PortCo charges would be charged with 0% VAT.
• HMRC does not look at any dividends taken by KD as a shareholder e.g. dividends from Tern or AIL/Sterna level.

Common directorship - NED/Mgmt team

• NSL Group
• You are expecting to register NSL for VAT and put in place 3 management agreements in place: a) TCL/NSL, b) NSL/OIL and c) NSL/TSS
• The management agreements should have wording as outlined below in the next section.
• In this case, AE (Alistair Eaton) and Mark Thomson (MT) are common directors of NSL/OIL and NSL/TSS. This is not an issue because AE and MT are not paid salaries/benefits out of NSL
• FIL Group
• FIL is already registered for VAT. At present, TCL charges FIL and FIL recharges to CADS. You are planning to put in place two other management agreements: a) FIL/SIL and b) FIL/MBP
• FIL is corporate director for CADS and MBP
• In this case, AW (Aaron Wright) and WP (Wayne Pardon) are common directors for FIL/CADS, FIL/SIL, FIL/MBP. This is not an issue because AW and WP are not paid salaries/benefits out of FIL.
• The management agreements should have wording as outlined below in the next section.
• AIL Group
• KD has been a common director for AIL and MBL between April 2017 to Dec 2023
• However, KD is not paid a salary by AIL (apart from any historic dividends from AIL to SHL which don’t matter)
• Therefore, this is not an issue

Consulting/management agreements

• Consulting agreements between TCL and TopCos should have the following wording:
• Consulting fees paid to TCL should be to reference to fixed value that can move or up down based on approval from the shareholders of each TopCo. It is better to have a flexible pricing model rather than a fixed price. Defined amount and defined amount should be in reference to the cost being incurred.
• Any costs incurred by TCL will be charged at cost to the TopCo.
• Ensure that any invoices sent by TCL say that it is Tern consulting services and no “director services”
• Every time there is an acquisition, we need to ensure that the acquired entity is added to the TCL/TopCo consulting agreement to explain that TCL is providing services to TopCo which covers all the subsidiaries in the group.
• Management agreements between TopCo and each subsidiary should have the following wording
• Fees charged by TopCo should be to reference to fixed value. The fixed value could be based on approximate revenue of each business in January of each year based on the relevant year’s forecast.
• Any costs incurred by TopCo should be charged to each subsidiary at cost. These costs could be a) legal costs to acquire a subsidiary, b) transaction costs to assess potential acquisition targets (whether aborted or not) and c) any other transaction costs (diligence costs, tax advice, etc.)
• Any costs not recharged from TopCo/HoldCo to SubCo means that you won’t be able to reclaim VAT.
• The size of the margin made by TopCo between its costs (paid to TCL) and income (received from subsidiaries) is not relevant as long as there is a margin.
• In the case of AIL, it is £6K per month.
• In the case of FIL, it is £0.5K per month

Future acquisitions

• There is no need to change the existing investor/shareholder agreements or board minutes
• For future acquisitions, do the following in the board minutes
• Make it clear that TCL will be charging a consulting fee to TopCo / HoldCo and clarify that any services from Tern are of consultancy nature
• Set an intention that TopCo will charge the underlying companies for the target companies.
• Make it clear that if KD is appointed one or more companies in the group, this is a condition of the deal. KD is not paid anything for his Director services by TopCo or any of the PortCos
• As part of the deal, any NED or Management Team members will be Directors of TopCo, HoldCo and/or subsidiaries
• Investor/shareholder agreement: continue to use the same language as in the FIL investor agreement

TopCo/HoldCo VAT recoverability considerations

1. Loan relationships
1. If TopCo/HoldCo (e.g. AIL, NSL, FIL) is VAT registered and is lending money to any SubCo (and there are repayments from SubCo to parent), this doesn’t affect the VAT recoverability of TopCo/HoldCo
2. This loan and repayment relationship is outside of the economic argument as TopCo/HoldCo is not incurring any “cost”
3. However if TopCo/HoldCo hired a lawyer to redraft the shareholder loan docs, then the VAT is not recoverable.
4. Any interest income earned by TopCo/HoldCo (from its loan to SubCo) is VAT exempt income and that does not have an impact on VAT recoverability. This is because the interest income is “incidental” and not core to the business (e.g. a bank making money from interest income is their core business)
2. Dividends
1. SubCo might issue dividends to TopCo/HoldCo (e.g. CADS to FIL or MBP to AIL or OIL to NSL)
2. Dividends to parent are outside the scope of VAT. There are no partial exemption issues i.e this doesn’t affect recoverability of any VAT.
3. Unsettled invoices
1. For invoices raised by TopCo/HoldCo to the underlying SubCos, they don’t need to be cash settled. Accounting for them through ICO payables/receivables is fine.
4. Disposals
1. In general, you can’t recover VAT on costs of disposing an entity within the group. VAT recovery principle relies on what you are doing with the cost
2. You may be able to recover VAT if selling to a non-UK buyer
3. You might incur cost to prepare the business for sale which might recoverable. However if the costs is related to the shares of the sale, then it is unlikely to be recoverable.
4. Acquisition of shares is an “overhead” and helps with your the future income. However, disposals don’t help future income and hence they are generally not recoverable
5. VAT Group
1. We should consider setting up a VAT group. This is a one-off operational headache as will involve changing invoices and updating the existing VAT numbers for all SubCos but it makes the argument easier in terms of the logic for reclaiming VAT (e.g. the cost was incurred for the wider purpose of growing an existing VAT Group)

Appendix - Investor agreements

Arctic

Feb 2017

Feb 2020

Horus/Bios

Forma

Graveyard

Old table - ignore

• £7.5K input VAT. TCL will charge NSL management fees for Jun-Nov (6 months) @ £37.5K + £7.5K VAT. Invoice dated 1 Nov 2024.
• £8.1K output VAT. NSL will charge TSS £40.5K (6 x £6.75K or £500 margin per month) + £8.1K VAT. Invoice dated 1 Nov 2024

General

• HMRC will go to public notices (less nuanced) vs internal manuals (which is the link above)
• Of the 3 monthly charges that Tern does, only a proportion of it should be outside of scope of VAT
• Is there a defensible position with the current management agreement between Tern and Forma? Also, the investors agreement give more credibility that there is an arrangement in place
• How to calculate what % is non-taxable
• Your charge will be x%
• Take MB's revenue as % of all the companies' revenue. ONCE a year exercise.
• MB is 10% of the total
• 1% of the 10% is my salary.
• It helps if Tern were consulting for other companies where you are not a Director of

TLL NOTES

Key questions to resolve

1. Is it possible to reclaim VAT through Bios?
2. How best should we structure going forward to put us in a position to be able to recover VAT at Bios level?
3. Under what circumstances would HMRC typically conclude it was appropriate to recover VAT where no management fee charged?
4. Currently Tern capital charge manage fee directly to the Port Cos. Should we also charge a management fee to the Hold Co as that is effectively who we are advising for the acquisition?

Key is need to demonstrate taxable supplies to be charged in the future

Notes

• The ability to recover VAT when there are loan notes in the structure is more tricky, but this doesn’t apply to us
• HMRC’s view is always driven by reviewing the underlying documentation that is in place.
• The recoverability of VAT is not necessarily driven by who the invoices is addressed to. e.g. whereby the target company pays for fees on behalf of the the sellers, the VAt may be recoverable by the Sellers if VAT registered etc
• Put simply, there are two scenarios whereby deal fees may be recoverable for VAT purposes. This is because need to demonstrate for the purposes of recovering VAT there is a continuing taxable supply:
• The acquired business is being acquired into a VAT Group whereby that Group is carrying out similar taxable supplies. e.g. Bios would need to be VAT registered and within the VAT Group (at the point of acquisition)
• Management fee is charged from Hold Co (Bios) to the acquired entities.
• In our scenario, it is unlikely that we can recover VAT (despite being able to apply retrospectively for 6 months) for the following reasons:
• No documentation (e.g. management agreements) at the time that the acquisition was completed
• No common VAT registered group. Can’t do this retrospectively
• In our favour
• If there is a common director - fees paid to a common director are outside the scope of VAT

Conclusion

• Having common directors for the businesses also helps to support the argument of on-going taxable supplies.
• Should consider re-structuring the management fee so that Tern charges Bios and then Bos charges target Co (Similar to how we have it for Forma)
• Very unlikely we can re-claim the Bios VAT given VAT group not at the point of sale and also not VAT registered. Furthermore no documentation to support the on-going taxable trade (e.g. management fee)

Retrospective: Typically look at the invoices and engagement letters and provide an opinion on how to get the VAT back. Then how to broad with HMRC.

Forward looking: Typically need to understand what the stack will look like going forward. Then provide an opinion with what needs to be in place. e.g.

• VAT registrations
• minuting the intentions of the business
• Set up management services agreements
• who you should engage with. e.g. if you engage an M&A advisor at the correct legal entity.

If Director of both companies, outside the scope of VAT as under common control (common directors)

Tpyically would have all the entities in the company stack VAT registered