Starting your own business is exciting. Thinking about the legal aspects of how to do it, less so. Nonetheless, firming up the nuts and bolts of structuring your new venture, protecting it and coming up with money to launch it are vital.
There are dozens of legal issues to pay attention to, but here are a few of the most crucial ones.
Choose a Structure
First, you must determine the best legal structure for your startup – that is, how it will be organized as an entity in the eyes of the law and the government. The three basic formats (for private for-profit entities) are:
Which you choose depends on three things: the nature of your business, your business's funding needs and the risk of liability involved in your products, services or transactions. If a startup needs liability protection – and many businesses do – LLC or corporation status can provide that.
Whether an LLC or corporation is a better fit depends on how the business wants to be taxed, who the owners will be and what form of internal governance best suits those owners. See Should You Incorporate Your Business? for details.
By default, if you don't designate an entity for your business, you're operating it as a sole proprietorship and don't have to take any formal action to create it. The debts and obligations of the business are your personal debts and obligations.
Get Everything in Writing
Avoid verbal agreements. When a discussion isn't recorded in some fashion, it's difficult to prove the details, or to clarify matters down the line. This seems obvious, but plenty of new business owners ignore it. “Whether they work with a lawyer or just write up a basic agreement that both sides sign, they’ll have all the terms in one place if a question comes up later, not in 17 e-mails or texts,” says Autumn Witt Boyd, an intellectual property lawyer in Chattanooga,Tenn., whose practice focuses on entrepreneurs.
Items to be put on paper include partnership or joint venture agreements, client contracts, vendor or supplier agreements, and independent contractor or employee contracts. It's also a good idea to get even simple matters in writing, such as the timing of work: Though all may seem clear in verbal conversations, you should follow up with details outlined in emails.
Be Stingy with Ownership
If your business needs a big cash infusion, you might turn to investors. The first round of fund-raising tends to be the most expensive. That's because when a business has not yet proved itself, investors can't see a track record; often they will ask for equity in exchange for risking their money. See Does Your Startup Need Venture Capital Money?.
Many entrepreneurs instinctively try to raise as much as possible in the beginning to avoid fund-raising again in the future. “Do not give in to that instinct,” says Chattanooga,Tenn., attorney Kirby W. Yost, part of a specialized legal team within the firm Chambliss, Bahner & Stophel that caters to startups. “Entrepreneurs often make this mistake, and the end result is they give up much more of their company than they should have, or would have liked to.”
The more investors own of a company, the less control you're likely to have over it. Instead, when first shopping for venture capital, ask for just enough money to get to the next step. Once the company has proved its profitability and established a reputation, investors will be more willing to put in money for less equity.
Protect Your Ideas
Intellectual property is one of the most valuable assets a startup has. “If you do have something truly protectable, get the protection,” Yost says. “This will help you when recruiting investors also.”
For example, the design of a product is patentable. Patents provide 20 years of protection against others using or exploiting your concept. After that, anyone can use or commercialize it. Sometimes, though, a business might be able to take different steps to protect its idea, such as classifying it as a trade secret. It chooses to do that because the idea has potential for a very long commercially useful life – Coca-Cola's secret drink formula being a classic case.
It also can be good for a new business to file trademark registrations on its logos and other identifying marks. This helps with branding and makes it easier to protect the individuality of that branding, says attorney Jason R. Mirmelstein, chairman of the Startup Group within Chambliss, Bahner & Stophel.
The Bottom Line
The best way to protect your new business and set it up well is to consult a corporate attorney who focuses on startup ventures and small businesses. The cost of talking with someone who's a specialist in this particular field will likely be worth the headache you save yourself later – even on issues that seem basic, such as the structure of the firm or how to classify workers. Get your baby set up properly, so you can concentrate on making it a success.