Small businesses make legal mistakes all the time — some of which can be disastrous and difficult to recover from. I've spent most of my career representing startups, and I've encountered small business owners making the same mistakes over and over. I've aggregated some of those issues here to help you avoid making the same errors yourself.
Not having good written agreements. Put all your important business agreements in writing. Oral agreements are usually difficult to enforce and leave you with no recourse for compensation or legal action. Make sure your contracts are well thought-out, drafted in your favor, and give you flexibility and protection.
Unclear expectations and rules for employees. Make sure your employees acknowledge that they're "at will" employees, which means they can quit or be terminated at any time without exposing your business to liability. Inform your employees that discrimination, sexual harassment, and other illegal acts won't be tolerated.
Not getting an experienced corporate attorney. Every growing business faces issues that require the services of an experienced attorney. Issues such as stock-option plans, employee negotiations, state and federal tax issues, and intellectual property rights all require a corporate lawyer experienced in representing start-up and emerging companies. Specialized attorneys will charge more than generalists do, but in the long run, the money you spend on experience will save you time, aggravation, and money.
Ignorance of the law. Don't be intimidated. You can't afford to ignore legal issues just because laws are numerous and complex. Learning a little about the following basic areas of the law can keep you out of legal hot water:
Basic contractual rules
How to protect your ideas and inventions (copyright, patent, trade secrets, confidentiality agreements)
Major employer-employee laws
Securities laws affecting how you can raise capital for your business
Governmental regulation of your industry
Not keeping proper corporate records. Improper record keeping can cause problems with the IRS, hamper your ability to raise equity capital, and result in personal liability. Yet small businesses are notorious for failing to keep the required corporate records. Failure to document meetings of the board of directors and shareholders, failure to record stock issuances, and failure to document stock transfers are common infractions of the guidelines that protect the status of a corporation.
Not clearly documenting partners' rights and responsibilities. Founding shareholders or partners should have an agreement that answers the following questions:
How much time and effort is each person expected to contribute?
How much capital will each person contribute?
What happens if the business needs more capital?
What happens if one person leaves the business?
What happens if one person dies?
Will the stock or partnership interest be bought back from the estate of the deceased or from the person leaving the business?
Starting the business as a general partnership instead of a limited liability entity. Under many states' laws, partners are jointly liable for the debts and obligations in general partnerships. If the business encounters a problem, all of your investment in the business — as well as all of your personal assets — are at risk. Legal options such as corporations, LLCs, and limited partnerships can help you avoid liability.
Getting involved in litigation. Litigation fees can be astronomical, and they can quickly drain management time and resources. Consider alternative means of dispute resolution, such as mediation or arbitration. Or, if a reasonable settlement offer is available, think seriously about taking it instead of spending more time in litigation. Try to get an arbitration clause in all of your contracts.
Ignoring intellectual property issues. Even low-tech companies have intellectual property issues that may be important to the future success of the business. For example, do you require your employees and consultants to sign confidentiality and invention-assignment agreements? Have you registered for a trademark for an important company logo or product? Do you put copyright notices on your written information? Are your trade secrets adequately protected?
If in doubt, run any potential issues by an experienced attorney. Erring on the side of caution may help you avoid the dire consequences that overwhelm many small business owners.
Copyright by Richard D. Harroch. All Rights Reserved.
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