The last thing you need when running a small business is legal trouble. Here are five potential legal nightmares — and tips on how to avoid them.
- Losing control of your business because of improper structure. The way you set up your business can have major implications for its success. For instance, if you anticipate that you may face lawsuits or large amounts of debt, you’ll want to incorporate your business in order to separate your personal and professional assets. And, if you plan to go into business with a partner, Nolo.com says that without a customized partnership agreement, you may be ill-equipped to deal with minor disagreements, which could lead to major disputes. In fact, without one, your state’s laws will govern many aspects of your business. Talk to an attorney to find out which option is right for your business.
- Losing personal assets because of business debts. Many entrepreneurs incorporate their business to avoid being held personally liable for debts their company can’t pay. However, if you don’t follow corporate formalities, such as not commingling business and personal funds, a court can “pierce the corporate veil.” In other words, a judge can hold you personally responsible for your corporation’s debts. Paying your personal mortgage from a corporate account (or paying the business’s bills from your personal one) can prompt the court to side with your creditors.
- Being investigated by the U.S. Labor Department. In April 2010, Secretary of Labor Hilda Solis announced legislation that would address the problem of employers mis-classifying employees as contractors. Since then, the department has teamed up with the IRS to share information in order to find such instances. Additionally, 11 states to date have signed a Memorandum of Understanding with the department, which allows them to share information about employers. So far, there have been dozens of investigations leading to many employers having to pay back wages and damages to misclassified employees. Know the law on how to determine whether you use employees or contractors.
- Getting in hot water with the IRS. When you work for yourself, you’re responsible for paying your own federal income and self-employment taxes. You must do according to a very specific schedule outlined by the IRS. (For instance, self-employment taxes are due quarterly.) The taxes are paid in advance, and it’s up to you to estimate how much you’ll owe. Failure to pay these taxes on time, or the underpayment of them, can result in penalties. To avoid a tax nightmare, familiarize yourself with the rules.
- Having disagreements with nothing formal to fall back on. It can be easy to enter into a casual agreement with an employee, supplier, contractor, or client if you don’t anticipate any problems. But if problems do arise, the lack of a formal written agreement can complicate the situation. Contracts not only let everyone know what’s expected of them in a business relationship, they also outline procedures, set prices, limit obligations, and provide remedies for non-performance or unexpected events. To avoid any nightmares, use contracts in all of your business relationships.