Common Legal Mistakes Made by Small Business Owners

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Common Legal Mistakes Made by Small Business Owners

Heather Clark Reynolds - As a former practicing attorney and current business advisor, it amazes me how often I see the same legal snafu’s business owners find themselves in time and time again.  That being said, here are the top five (in no particular order) of pitfalls to avoid.

1. Using pre-printed forms/documents found on the internet and taking advice from internet sites/friends/family. There is a plethora of websites these days offering free and low-cost documents that promise to take the place of spending time and money with an attorney.  The problem with these forms is that oftentimes they are very generic, full of legal-ease that few people (yes, even lawyers…we are people too) understand completely, and rarely contain particular nuances required by state and local laws in order to be upheld in your local jurisdiction.  Its like going to a medical website and getting instructions on how to remove an appendix…no one in the right mind would actually do this, so why would someone assume to do the same with a legal document?  The other problem is that these documents, once executed, are legal documents and will be enforced and interpreted by a court of law…how can you be sure what you are drafting is what’s best for your company?  Another big no-no is taking legal advice from internet sites / friends / family.  With an internet site, again you probably can get a good understanding of a legal concept but don’t rely on that in order to make ANY decision involving your business.  Every business legal issue is unique and you can’t take generic legal advice and apply it to your situation without a professional evaluating all the facts and determining how your local jurisdiction will apply the law. Not to belittle friends and family, but unless they have a law degree and been practicing as a business attorney, they are not qualified to dispense with legal advice.

2.  Improper company formation / doing it yourself. Here is another big mistake I often identify when meeting with business clients.  I have seen companies form  S-corps when clearly they should be a LLC and vice versa.  Incorrectly setting up a legal business entity can potentially cost your company thousands of dollars in revenue, affect potential funding, and run the risk of violating terms of your visa if you are not a U.S. citizen.  Although many states offer on-line registration, these sites are deceptively easy…I know of a business owner who was sure he formed an LLC but instead formed a C-Corp with only one share…this turned into a big problem that cost thousands of dollars in accounting and legal fees in order to correct the mistake. There is a reason that folks go to law school and spend three years learning the law…in today’s world it’s all most attorney’s can do in order to stay abreast of new case and statutory law that comes out every year.  Hire competent professionals to help you make the right legal decisions.

3.  Poor contracting with vendors/independent contractors. I don’t know how many times I’ve heard the expression “well its just a piece of paper it doesn’t mean anything.” Wrong, wrong, wrong.  Signing a document, be it a professional legal drafted one or one created between two business owners, can obligate you to perform what was agreed to in that document or suffer the cost of damages and additional attorney fees.  Best business practices dictate that you take to an attorney any legal document or business agreement BEFORE signing. Ask the attorney to explain all the paragraphs in the document and make sure you understand what it is that you are agreeing to and what the consequences are of failing to abide by its terms.  Most vendor agreements are boilerplate, meaning they all say generally the same thing and don’t vary too much.  Its rare that vendors will customize contracts for business owners (particular small businesses) but in today’s economy everyone is fighting for business so don’t hesitate to talk to your attorney about helping you negotiate a contract with a vendor or supplier.  When it comes to independent contractors, the IRS will take a heavy hand in determining whether they are truly an independent contractor or an employee in disguise.  Many business owners think that by calling someone an independent contractor they can save thousands of dollars in payroll taxes.  Even if the business owner and the independent contractor agrees to this arrangement, the IRS can still step in and decide otherwise.  Visit www.irs.gov to read the litmus test regarding employee v. independent contractor.  If you have a legitimate independent contractor situation, its extremely important to ensure the contract you have covers the entire agreement and protects you in the case of a breach.

4.  No employee handbooks or agreements. One of the biggest complaints I hear from business owners are issues they have with their employees.  As a former business owner, I can attest to many of these issues!  If you are going to take the plunge and hire employees, take the time to understand all the legal complexities…not just taxes but other issues such as duties owed to an employee, responsibilities associated with a business hiring an employee (i.e., verifying U.S. citizenship), employment agreements such as no-competes, confidentiality, non-disclosures.  Having in place an employee handbook before you hire an employee is a great way to outline your expectations for him/her and keep the relationship on a professional level.  An employee handbook will also protect you if you find yourself in the unfortunate role of disciplining the employee; however that is a double-edge sword in that the same document can be used against your business to protect the employee.  Work with a certified human resource consultant and attorney to draft a handbook that fits your situation and make sure you understand what is contained in that document.

5.  Delaying seeking legal advice. Again, as a former practicing attorney and current business advisor I have seen countless situations that could have been avoided or at least minimized had the client sought legal advice early on.  Most of us have heard the phrase uttered by attorneys “pay me now or pay me more later.” Although it is said tongue-in-cheek, it is dead on right in that it will almost always cost ten times more to work though a problem than it is to identify it early and handle it before it spirals of control. Here is the thing about most legal problems…they never get better or “go away”.  Isn’t it better to avoid and identify problems with the help of an attorney than it is to watch all your hard earned revenue pass directly to the legal system? Yes, visiting an attorney is not always pleasant and it does cost money.  However, I promise that the outcome and experience will be much better if you can control it by involving yourself early on in the process and not letting it control you.

This document is intended for informational purposes only and is not legal advice or a substitute for consultation with a licensed legal professional in a particular case or circumstance.

Heather Clark Reynolds a Business Advisor for the Hoosier Heartland Indiana Small Business Development Center, an organization with the mission of having a positive and measurable impact on the formation, growth, and sustainability of small businesses in Indiana, and to develop a strong entrepreneurial community. Heather can be reached at hclarkre@isbdc.org.

Heather Reynolds


Heather Reynolds can be reached at hreynolds@isbdc.org.
Posted in: Human Resources, Management, Starting a Business

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