Businesses have different needs, according to their size and industry. A technology startup will have more problems than a small business if the owner fails to craft a nondisclosure agreement. A family business may have fewer problems than a large business if it does not put agreements between the owners in writing. The best way to avoid problems is to have the founders sit down and talk in a group with an attorney and an accountant.
Here are the top 10 legal mistakes that owners make when establishing a business — and how to avoid them:
1. Not Buying Insurance
Fail: Not buying insurance if insurance is required or standard for the industry.
Fix It: Founders can avoid this mistake by working with an insurance broker and attorney to understand what is standard coverage and what riders might be beneficial.
When a business does not buy standard or required insurance, the founders leave the venture open to risk. The lack of insurance may also cause problems for filing with government agencies. Further, the lack of insurance can scare investors. As an example, typically, a fledgling medical office should purchase general liability insurance, commercial property insurance, and business income insurance. If the office is in a flood zone, the founders may want to consider flood insurance.
2. Lack of Attorney
Fail: Not using an attorney to craft contracts.
Fix It: Founders can avoid this mistake by working with a business attorney right from the start.
An attorney is the best professional to consult about creating and retaining contracts. Founders should avoid buying general, boilerplate contracts that are not specific to their state. Some or all of the language in the contracts could fail to apply in their state. It is a good idea to pick an attorney who has worked with businesses in the industry. Founders should consider working with an attorney who has experience in drafting contracts that relate to the goods and services that the company offers.
For example, if the business deals in a field where time is of the essence, founders should search for an attorney who knows how to write “time is of the essence” clauses. Founders should work with the attorney to craft clauses that apply specifically to the business’s line of work, such as event planning.
When beginning a startup, founders should work with an attorney to secure copyrights, patents, and trademarks. They should make sure the attorney is familiar with intellectual property issues. The laws and case law, defined as lawsuits that clarify laws, differ between industries.
3. Wrong Business Structure
Fail: Setting up the wrong type of business structure, such as a general partnership. In many cases, a limited liability company will offer better protection.
Fix It: Founders can avoid this mistake by educating themselves about different types of business structures before setting up the company.
When founders know how to run and grow the business, that saves them money on unwanted expenses. Founders should sit down as a group to review the costs and advantages of setting up a C or S corporation. This exercise is a bonding experience. It helps everyone understand what each individual and the group wants to accomplish.
4. Mixing personal and business expenses
Fail: Mixing personal and business expenses. This mistake can also involve taking money from sources that would later present concerns.
Fix It: Founders can avoid a financial and legal mistake in two ways: not mixing personal expenses with business expenses, and not working with sources that would cause issues.
Founders who are beginning a startup should consider taking money only from accredited investors. They should avoid working with non-registered brokers or dealers. Founders should always keep documentation of who contributed what, even among the group of founders. A contribution could be equipment, services, cash, resources like gasoline or water, or inventory, like goods. Founders should make sure the business’s records note the value of the contribution at the time it was provided.
5. Ignoring Labor Laws
Fail: Not paying attention to labor laws, such as laws that apply to hiring and “wage and hour” concerns.
Fix It: Founders can avoid this mistake by reviewing applicable labor laws with an attorney before starting the hiring process.
Founders should sit down with an attorney who is familiar with the city and state in which the business will be located. Together they should figure out what laws apply to the business. Understanding labor laws is a significant step. This is because failing to fully understand labor laws can negatively impact a business’s reputation. When a business is starting out, all of its interviews present an opportunity to share news about the company. The business’s application, interviewing, and hiring procedures should give candidates a positive impression of the company.
6. Discarding Important Documents
Fail: Failing to keep important documentation on applicants and new hires.
Fix It: Founders can avoid this mistake by having all applicants and new hires fill out the same paperwork. The exception is if an individual must fill out additional paperwork for the appropriate legal reason.
As an example, all new hires should fill out the same onboarding paperwork. A new hire with a disability may be asked to complete additional paperwork regarding the disability. The reason that the new hire should complete this paperwork is so the company can immediately begin to accommodate their disability. If a business fails to create and retain appropriate and necessary records like these, it could open itself up to a lawsuit. If the business is missing this type of documentation, the founders should establish a system to identify and replace missing documents.
7. Not Following Regulations
Fail: Failing to follow regulations for the industry.
Fix It: Founders can avoid this mistake by reviewing the laws for the industry and making sure their operations are compliant with state and local laws.
The business’s attorney should advise the founders on the laws with which the business needs to comply. These laws may relate to a diverse set of issues, from zoning to security to transportation. Founders should avoid skirting requirements with easy fixes. If the law is unclear, they and the attorney should consult an individual who used to work for the agency that promulgated the law. The attorney should ask the individual about the history of the law. This allows the business to comply with the rule in a way that will satisfy the agency.
8. Not Getting It In Writing
Fail: Failing to reduce agreements to writing.
Fix It: Founders can avoid this mistake by sending an email after a conversation to the appropriate party.
Founders should avoid handshake deals and verbal agreements. It’s always best to put agreements in writing. Texts are not a good substitute for emails. It is easier to lose track of texts, and it can be difficult to find or subpoena them. This rule relates to the second mistake, not using an attorney to craft contracts. An attorney can tell founders which written agreements rise to the level of a contract. Founders may need to educate their attorney about their industry. They may have to explain what is common knowledge and best practices. This helps the attorney determine what language to include in contracts. It also smooths the way for founders to consult an attorney only when necessary.
9. Not Keeping Tax Records
Fail: Not retaining company records the business will need for tax purposes and regulatory compliance.
Fix It: Founders can avoid this mistake by keeping records, organizing them, and making sure the records stay in good condition.
Founders should avoid throwing out records they may later need for tax purposes and regulatory compliance. After talking with an attorney about what type of documents to retain, founders should create a system for digitally and physically filing these documents. That way the documents will stay in order. The founders should ensure the records are organized by date whenever possible. They may want to consider backing up certain documents in the cloud. They can consider encrypting documents that are particularly sensitive.
10. Missing Regular Tax Payments
Fail: Missing regular tax payments.
Fix It: Founders can avoid this mistake by making tax payments on a regular schedule.
Founders should always keep track of when the tax bill was paid, the amount that was paid, who paid the bill, the check number or electronic funds transfer (EFT) identifying information, and when the next bill is due. When a business fails to file taxes or does not pay the full amount, it can be subject to a penalty that applies to every month that the payment is delinquent. This represents an unnecessary cost for a business. It also puts it on the radar of tax agencies. A business should strive not to be noticeable for shortcomings in its first few years of operation.
All of these legal mistakes can be overcome by regular, respectful communication between founders. Together, founders can solve all of the problems. There may always be a new law on the horizon, or a customer ready to file a lawsuit. This is not a concern. Getting all founders at the table and working through issues together is what matters. In every puzzle-solving exercise, the recovery — what it meant to all of the founders and how they got through it — will be remembered. Over time, the missteps will be forgotten.
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