Three Legal Pitfalls Small Businesses Can't Ignore

As a startup, your resources are spread thin.  With little money and few staffers, you need to decide which parts of your business really need attention.  For most, that means the website, advertising and staffing get priority.  But what about accounting and legal issues?  Many entrepreneurs turn a blind eye to these areas.  Money is tight, so you don’t want to pay an accountant or a lawyer. 

That’s unfortunate, because in the early days of your company, you will be making decisions that determine your future.  A hasty or uniformed decision could come back to haunt you.

If you're going it alone as a business owner, without an attorney or an accountant, what things should you pay attention to? Here are three of the biggest traps your startup can fall into:

• The choice of business entity.
• Protecting intellectual property.
• Dealing with partners.

What type of business entity?

If you're self-employed, the IRS says you're automatically a sole proprietor of your business. But if like many solo contractors you think it looks better to invoice or advertise under a business name, your state probably requires you to register that name. It may even impose penalties or shut you down if you fail to register. You may also have trouble opening a business bank account or even cashing a client payment if you don't register.

If you're earning money in any status other than a regular employee, you really should take an interest in your state's business laws. Every state has its official website, and typically the Secretary of State section will deal with forms and registrations. Many states have a large section or site devoted just to business. These sites are a treasure for the business person, and most try very hard to be readable and helpful. Plan to spend some evening hours browsing the requirements for your type of business.

If you have reasons to form a corporation or LLC, it can be straightforward to do it yourself, but the top single mistake any new business can make is to choose the wrong type of entity. You need to read around a bit to discover what might be the pros and cons of each. If you're a solo business, do you want an S Corporation? How does your state regard a single-member LLC? Become familiar with these questions - you can find the answers, but first you have to accept that it's important for you to know.

The principal reason to form a business entity is to protect your personal and spousal assets or income from any liability arising out of your business. If you form an LLC or corporation, you have to accept that there are now requirements of law placed on you. If you fail to comply with the requirements, then in a lawsuit a court may "pierce the veil" of your protection and take everything you own. Again, you can find the answers at your state website and in business articles - but you have to look.

At what point in your business growth should you bite the bullet and get a legal consultation? It's never too soon, and consultation is rarely wasted, but typical triggers could be: if you have expansion plans from the beginning, if you're seeking funding (from any source, including your parents), if you have partners, or if you're creating proprietary intellectual property.

The simple rule is that if you've done your diligent reading and you're still not sure, the money won't be wasted to consult with an attorney and an accountant. And by the way, always make sure these two professionals each know what the other is advising you. Tax and liability strategies can differ. Keep your advisers on the same page.

Copyrights, Trademarks, Logos - Intellectual Property

Even a small business typically has an invented name and probably a logo. Who owns that logo? Make sure there's a clear paper trail showing the designer sold it to you and reserved no rights. Did someone help you come up with the name for your business or revolutionary product? Down the road, when you have some money and a successful business, a co-inventor of this intellectual property may sue you for a share of your holdings.

Intellectual property (IP) works both ways: there are the rights you're trying to protect, and the rights of others that you may infringe. As your company grows, expands to other states, or ramps up its advertising, a business with the same name may become aware of you and ask you to cease and desist using your name. Or it may be you, telling someone else to stop stealing your IP.

Blog posts, sales brochures, and all copyrighted materials become things you want to guard jealously. Alternately, make sure you're not plagiarizing some else's work. Make sure your writers assign all rights to you, and only commission works for hire. A little reading will give you a sense of the general legalities around these matters, and help you be more careful.

Business Partners

Partners in a business require careful treatment. Family and friends can be especially tricky, because every business dispute will contain emotional relationships that have real values. You may find yourself making a wrong business decision rather than alienating a loved one. It's equally difficult in the beginning to treat loved ones and friends in the formal way you would with strangers - although you must, if you want your business set up correctly.

Partners share your business, and own a part of its value as well as having duties. Both of these areas must be spelled out clearly in writing such that a court can uphold the way you intended the business to be. A corporate structure makes shareholder relationships pretty clear-cut, while an LLC has an operating agreement that can be configured very flexibly - you almost certainly want a lawyer to advise you with this however.

You can lose your liability protection if the company officers fail to perform the duties required by your state’s laws. Proper documentation and decision-making are the two most prevalent areas of exposure here.

Conclusion

In business, always lay a paper trail. Chase a phone discussion with an email to recap. Use written reimbursements and invoices to cover all movements of company money and keep it separate from personal monies. If you're a business entity, hold all required meetings, and write down all company decisions, even if it's just you.

It can be challenging for the type of person who makes a great entrepreneur to turn into a great bookkeeper - or a bookworm! But as a business owner, you have a duty to operate safely and lawfully in the world, and to protect your family assets from litigation. When you do seek professional advice, consulting costs can be kept minimal by your diligence in running your business.