1. Not Starting a Business as a Limited Liability Entity
If you start your business as a general partnership or sole proprietorship instead of a limited liability entity, not only are your investment in the business and the business assets at risk in the event of a lawsuit or other problem, but so are your personal assets. It is important to separate and protect your personal assets from your business by forming an LLC, corporation or even a limited liability partnership.
2. Not Having Good Written Agreements
It is important to put all your business agreements in writing and to be sure that those written agreements clearly define the roles/obligations/duties of each party as well as the remedies available if either party violates any of the terms of the agreement. This is essential not only for your contracts related to goods and services, but also for your contracts with your business partners.
Doing business with friends, family and lovers is a common practice, but fraught with potential problems. It is vital for business partners to discuss and clearly define in a written agreement issues such as:
- 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 wants to leave the business?
- If a business partner is married, what rights and interest in the business will the spouse have in the event of divorce or death of the partner?
- Will the company buy back the stock or interest from the estate of the deceased partner or from the partner leaving the business?
Consider what might happen if the other party fails to fulfill its obligations, or if the business fails - or is wildly successful. Your written agreement with your business partners should protect everyone's interest when changes occur.
3. Not Treating Your Business as a Separate Legal Entity
In order to preserve the limited liability protection that your LLC or corporation provides, be sure to maintain good books and records and never comingle business and personal funds. This doesn't mean that you can't pay money on behalf of the business from your personal account, but document and track each transaction. Don't pay personal expenses directly from business funds or treat the business like your personal ATM.
If your company is organized as a corporation, you must observe additional legal formalities so learn what the law requires and be sure to meet the minimum requirements. If you don't observe these rules you run the risk that a court might remove the limited liability protection and allow a judgment creditor to go after your personal assets.
4. Not executing Contracts with Customers/Vendors/Landlords/Renters in the Name of your Entity
Make sure that all of your written contracts are executed in the name of your entity and never by you personally. Your company should be the party to the contract and when you sign, be sure to indicate that you're signing on behalf of your company. If you fail to observe these rules, you lose the limited liability protection for which you formed your legal entity.
5. Setting Unclear Expectations and Rules for Employees
If your employees are "at will" employees, which means they can quit or be terminated at any time without exposing your business to liability, be sure to have them sign something acknowledging their understanding of this employment status. Inform your employees that discrimination, sexual harassment, and other illegal acts won't be tolerated, but be careful when preparing employee handbooks because they are often treated as an enforceable contract by Arizona courts.
6. Treating Independent Contractors Like Employees
Use caution in how you deal with independent contractors. The IRS provides detailed information and a multiple point test to determine whether the independent contractor you've hired is actually a W-2 employee in disguise (see, for example: http://www.irs.gov/pub/irs-pdf/p15a.pdf). It is important to review that test and understand the legal risk and consequences of not complying with the rules related to independent contractors. In addition, Arizona has its own set of rules related to Workers' Compensation insurance coverage (see A.R.S. Section 23-902).
7. Ignoring Intellectual Property, Disclosure and Solicitation Issues
Whether you realize it or not, your company likely has intellectual property issues that may be important to the future success of the business and which should be protected. For example, do you require your employees and consultants to sign confidentiality and non-disclosure agreements? How about invention assignment agreements? Have you registered for a trademark for an important company logo or product? Are your trade secrets adequately protected? Do you have key employees sign non-compete/non-solicitation agreements so as to avoid a scenario in which an employee leaves your company, starts an identical business nearby, and takes your customers and other key employees with them?
8. If At All Possible, Stay Out of Court
The out-of-pocket cost of litigation, which also drains management attention, time, and energy, is far higher than most small businesses can afford. Try to remove the emotion when you deal with disputes with business partners or third parties, and find a business solution or compromise whenever possible. If you must go to court, be sure you have good legal representation and, if possible, consider settling with the other party when the opportunity presents itself.
9. Realize that Legal Ignorance is Not Bliss
Ignorance of the law is no defense against breaking it. Yes, there are lots of rules to follow and it's understandable that you may have been uninformed about some of them, but it's important to educate yourself on the essentials.
Just as you need to know some basic accounting, marketing, and sales techniques, you need at least a passing familiarity with:
- Basic laws regarding contracts;
- Employment law;
- Intellectual property rights, including copyrights, patents, and trade secrets;
- Laws and regulations controlling how you may raise capital; and
- Local, regional, state, and federal regulations that apply to your business.
10. Never go naked into action
Doing business without a good business attorney (as well as financial, tax and insurance advisors) on call is like ignoring a hurricane that's coming your way: you're inviting trouble, even devastation, by turning a blind eye to the potential danger. Issues related to organizing and running a business are complex, with far-reaching implications. You can't expect to possess the expertise needed to understand all of those issues or know what you need to do to protect yourself. You should, on the other hand, build relationships with the professionals who can look out for your interests and help keep you on the right path.