5 Legal Tips for New Business Owners. By: Nate Hinch
As an attorney for businesses and business owners, I get a lot of questions, including when is the right time to consult a lawyer. For entrepreneurs, your business is an extension of yourself. It’s personal and unique to you, and yet you can and should take comfort in the support of the entrepreneur tribe – knowing that you are not alone. Your tribe should include other entrepreneurs like you, and include professionals like an attorney, an accountant, an insurance professional, and a financial advisor. From the legal standpoint, these five tips cover common questions and issues I see from new business owners, when starting a new business or considering acquiring an existing business.
Limit your personal liability risk. You limit your personal liability by forming a corporation or limited liability company for your business, as opposed to operating as a sole proprietorship or partnership. In doing so, the law views it like your business is announcing its separate legal existence, distinct from just you. Not doing this is like walking a tight rope without a safety net. You can do it, but it’s risky and not recommended. Yes there is a cost to do this (can vary from State to State) but it’s not a lot and is well worth it. Look at it this way – if you are not willing to invest the minimal amount it takes to make your business take life as a true legal entity, then how can you expect others to do so?
Use contracts to protect your right to be paid for your work. You have your first client for your new business? Congratulations! In the excitement, don’t overlook the step of having a written contract signed, that describes what work you will do and for what pay, and provides some basic ground rules. When will you be paid? All at once, or in payments over time? Will interest accrue? What happens if payments are late? The general rule in the US is that if you have to hire an attorney to help you collect on a bill, you don’t get to recoup your attorney fees from the debtor, unless there’s a signed agreement to that effect. So make sure to include recovery of collection costs and attorney’s fees in event of default. If your business is online-based or spread out geographically, I also suggest including a provision that provides for a mandatory dispute resolution venue or method. This could be private arbitration or a court that is local to you, depending on circumstances. If you have an online business, the “terms of service” page for your site should be considered as an extension of this.
Protect your brand and work product using trademark and copyright, as well as contract protections. The first step with this is actually using your contract first, by including protections like non-disclosure and confidentiality covenants. Don’t forget to contemplate what happens if there’s a default, like stipulating to your right to get an injunction to stop or prevent a disclosure. Big picture, trademark is about protecting your brand, either your business or product name, your logo, or both. Copyright is about protecting your creative works. With both, you have rights automatically at common law, just by virtue of using the name and work in commerce. But registering federally with either the Patent and Trademark Office or the Copyright Office uses federal law to better protect you, both to enhance your options in event someone else infringes on your rights, and to protect you in case someone else were to register and claim ownership in your trade name, logo, or work.
Know your options – if you buy an existing business, should you go with an asset or stock purchase? If you decide to buy a business rather than starting from scratch, there are basically two options. You can buy the equity or the asset side of the balance sheet. For the seller of the business, these options differ in terms of how the income from the sale is taxed – is it ordinary income or capital gain? As a result, sellers may push for the sale to be characterized as a stock sale. But for buyers, an asset transaction is generally preferable. As the new buyer of a business, you want to be careful not to be acquiring liability for a past sin of the previous ownership. With an asset purchase, you are not acquiring the previous corporation itself, but rather all the assets of that corporation, including its name and goodwill. As the buyer, you will have a new corporation (or LLC) doing business in the same name as before, but legally it is a separate and distinct entity.
Know your options – what about franchises? Should you buy into a franchise, or go independent? The other common question for entrepreneurs who choose to buy a business, is whether to go with a franchise or an independent company. The value of the franchise is tied to the established brand recognition and systems in place for the franchise to be successfully repeated in new locations. When it works, a franchise can be a good way to start your business with immediate brand recognition. Of course this comes at a cost, in the form of the initial and subsequent fees the franchise charges for the privilege of using the franchise brand and systems. These costs are usually substantial, and the systems sometimes can feel to the franchisee like more of a hindrance than a benefit. Franchises when done right can be a good option for certain potential business owners, but can be absolutely the wrong approach for others. Because franchises are regulated, they are required to provide you with a disclosure document that is legally required to cover areas about the franchise track record, and is updated periodically. You can also often obtain objective track record information from the State agencies that handle their registration.
As you start your new business, keep these five legal tips in mind to guard against risk, so you can focus on the positive business development growth. When you form your new business, invest the small amount necessary to form a limited liability entity. Protect yourself with contracts and federal trademark and copyright, as appropriate, and make sure your contract helps you to get paid for your work. If you decide to spend more to acquire an existing business rather than start from scratch, consider the structure of the deal and make it sure it is the right fit for you – are you buying the assets or the stock? If you are buying into a franchise, what systems are in place and what is the track record of the franchise, and is the investment worthwhile, compared to the alternatives?
Nate Hinch is an Illinois attorney at the law firm of Mueller, Reece & Hinch, LLC who advises clients in the areas of business law and estate planning, and represents them in both transactions and in litigation and arbitration. He also blogs about legal issues at www.hinchlaw.blogspot.com and can be reached at www.mrh-law.com and firstname.lastname@example.org .