A term sheet doesn't have to be a scam to be a bad deal. Most of the ones that go wrong for an angel are technically fine, professionally drafted, and stacked quietly against the small cheque in the room. The valuation looks reasonable, everyone is polite, and the term that costs you is three pages in, phrased as if it were routine.
This is the spot-the-problem companion to what an angel should negotiate. Negotiation is what you raise; a red flag is what you notice before you get there. It's not a list of deal-breakers, because context decides. It's the shortlist of terms that should make you stop reading fast and start reading carefully.
A term sheet doesn't have to be a scam to be a bad deal.
What are the red flags in a startup term sheet?
The red flags in a term sheet are the terms that quietly move money or control away from you: a participating or above-1x liquidation preference, full-ratchet anti-dilution, a large pre-money option pool, a cumulative dividend, heavy investor-consent lists, and any preferential right on your shares that breaks SEIS or EIS relief. None is automatically fatal. Each is a signal to slow down and ask why it's there.
The mistake most first-time angels make is reading the front page and stopping. The valuation is a single number, and it's the one everyone argues about in the open. The terms that decide your actual return sit behind it, in the payout order, the down-round mechanics and the share class. Read those the way you'd read any small print you're about to sign: assume the drafting is deliberate, and that a term you don't understand is working for someone who does. Our guide to the key clauses covers what each one is; here we're on which ones should worry you.
Is a participating liquidation preference a red flag?
Yes, in most angel-scale deals it's the loudest economic flag, because a participating preference pays the investor twice: their money back off the top, and then a share of what's left alongside everyone else. On a modest exit, which is the common one, it can eat the proceeds before founders and early angels see much at all. The plain-English breakdown puts numbers on it. The clean norm is 1x non-participating, where the holder takes the larger of their money back or their straight percentage, not both.
The multiple stacks the same way. A 2x or 3x preference multiplies the sum taken before you're paid, and it usually tells you something about the round: high multiples surface when a company is raising from weakness. Next to the preference sit two more economic flags. Full-ratchet anti-dilution reprices earlier shares to the new low price in a down round, roughly tripling the dilution the gentler broad-based weighted-average method would cause, as the anti-dilution explainer sets out; full ratchet lands hard on whoever isn't protected, which is usually the angel. A large pre-money option pool is the subtle one: carved out of the pre-money valuation, the pool for future hires is funded by the existing shareholders, so you pay for dilution that looks like the founders'. And a cumulative or guaranteed dividend is a fixed sum that builds up and is paid ahead of you on exit.
What control terms should make an angel pause?
The control red flags are terms that hand disproportionate power to one holder or signal a team you can't rely on: investor-consent lists so long they stall the business, drag-along rights a small group can trigger, weak or missing pre-emption, and founder terms that look off. These rarely cost you money on day one. They shape whether the company can be run, and whether you can be carried out of it.
Consent creep is the common one. A short list of protective provisions is reasonable; a list that requires investor sign-off for routine hiring and spending can freeze ordinary decisions and hand one investor a veto over the company. Read the drag-along carefully too: it lets a defined majority force you to sell on the same terms, which is normal, but a drag a small minority can trigger, or one with no minimum-price floor, can carry you out of a deal at a price you'd never accept. Weak pre-emption is a red flag by absence: without the right to follow your money into future rounds, you get diluted out of the companies that do well. Finally, the founder terms are information about the people. No founder vesting, founders still working elsewhere, a thin warranty set, a co-founder already gone with a large stake: none sits in your clauses, but each tells you something about the risk you're actually buying.
Can a term sheet break my SEIS or EIS relief?
Yes, and this is the flag UK angels miss most. SEIS and EIS relief generally require ordinary shares carrying no preferential right to your money or assets, so a liquidation preference, a guaranteed or cumulative dividend, or redemption rights on your shares can disqualify the relief on them. The clause meant to protect your downside can cancel the tax break that was half the reason the downside felt survivable. HMRC's Venture Capital Schemes Manual sets out the ordinary-share and no-preferential-rights conditions.
There's a second SEIS/EIS trap in the shape of the instrument, not just the clauses. If relief is part of your case for the deal, a SAFE or a convertible loan note is a red flag, because both generally sit outside SEIS/EIS: you needed qualifying shares issued at the point you invested, and a SAFE or CLN defers that. A properly structured advance subscription agreement can qualify where a SAFE won't. This is the angle that decides many UK angel deals, and it's covered in which deal structures keep your SEIS/EIS relief. The practical point is the same one that runs through the whole page: if a specific relief is why you're investing, have the share class and the instrument checked before you sign, not after.
Is a red flag a reason to walk away?
No. A red flag is a question, not a veto. Every term on this page appears in deals that go on to make money, and the same term can be reasonable in one round and predatory in the next. A 2x preference in a genuine rescue round is a different thing from a 2x preference in a hot round where the founder simply didn't push back. The flag tells you to ask why the term is there and what it costs you in the outcomes that actually happen, not the one on the pitch deck.
What red flags are good for is calibration. A single one, well explained, is often fine. Several of them together, in a round that isn't distressed, is a pattern worth taking seriously, because it tends to say something about how the people on the other side treat the small cheques. Weigh them against the rest of the deal, the founders and your own conviction, and decide from there.
And the line that has to sit on a page like this: it's general information, not financial or investment advice. A term sheet is a legal document with real tax consequences, and the rules around it change. Before you sign one, take advice from an FCA-regulated adviser and a solicitor, and confirm the current tax position with HMRC on GOV.UK.
Frequently asked questions
What are red flags in a term sheet?
The terms that quietly move money or control away from you. On the economics: a participating or above-1x liquidation preference, full-ratchet anti-dilution, a large pre-money option pool, and cumulative or guaranteed dividends. On control: long investor-consent lists, drag rights a small minority can trigger, and weak or missing pre-emption. For a UK angel there's also the tax flag: any preferential right on your shares, or a SAFE or convertible note, can break SEIS or EIS relief. None is automatically a deal-breaker; each is a reason to slow down and ask why it's there.
Is a participating liquidation preference bad?
It's the loudest economic red flag in most angel-scale deals, because a participating preference pays the investor twice: their money back off the top, then a share of what's left. On a modest exit that can leave founders and early angels with very little. The founder-friendly norm is 1x non-participating, where the holder takes the larger of their money back or their percentage of the sale, not both. Whether a participating preference is acceptable depends on the round; it's a question, not a verdict.
What is a full ratchet?
Full ratchet is the aggressive form of anti-dilution. If the company later raises at a lower price, a full ratchet reprices an earlier investor's shares as if they had paid that lower price all along, no matter how few shares were issued at it. It can roughly triple the dilution a down round would otherwise cause, and the pain lands on founders and anyone without the protection, which is usually the angel. The proportionate, widely accepted alternative is broad-based weighted average.
Can a term sheet break my SEIS or EIS relief?
Yes. SEIS and EIS relief generally require ordinary shares with no preferential right to your money or assets, so a liquidation preference, a guaranteed or cumulative dividend, or redemption rights on your shares can disqualify the relief. Investing through a SAFE or a convertible loan note generally doesn't qualify either, because you needed qualifying shares issued when you invested. A properly structured advance subscription agreement can qualify. If relief is part of your reason for the deal, have the share class and the instrument checked before you sign. This is general information, not advice.
Should a red flag make me walk away from a deal?
Not on its own. A red flag is a question, not a verdict. Every term on this list appears in deals that go on to succeed, and the same term can be fair in one round and harsh in another. A single flag, well explained, is often fine; several together, in a round that isn't distressed, is a pattern worth weighing. This is general information, not financial or investment advice. A term sheet has legal and tax consequences, so confirm the current rules at GOV.UK and take advice from an FCA-regulated adviser and a solicitor before you sign.