5 Common Legal Mistakes Made by Small Businesses You Need to Avoid

October 7, 2015 / Reading: 4 minutes

Day to day, entrepreneurs and business owners are concerned with effectively running their businesses. A majority of entrepreneurs are not attorneys, but knowledge of common legal issues that arise with small business ownership is crucial.

One legal mistake has the potential to bankrupt your business, and possibly you personally. As a result, it is crucial that you are able to spot these issues and address them before they damage your company. Listed below are some common mistakes that often occur in small businesses.

1. Failing to incorporate your business

This is possibly the most common and arguably the most damaging mistake a small business can make. Without incorporation, most states treat small businesses as sole proprietorships, which personally places you at risk of bearing the financial burden of a lawsuit. If an employee or client sues your business, you are open to personal liability for any damage awards against your business. However, incorporating your business can insulate your personal assets from liability.

Furthermore, if you need outside funding, most investors will not consider funding a sole proprietorship. If you are currently running a Sole Proprietorship, consider restructuring your company as a Limited Liability Company (LLC), S or C corporation. Typically, it is best to establish your incorporated business in your operating state. However, it would be best to seek the advice of a knowledge small business attorney if you have further questions.

2. Failing to incorporate human resource guidelines

Small businesses are often informal and do not use employee manuals to guide the conduct and expectations of their employees. Running a business without human resource policies greatly opens your business to lawsuits from former employees. A multitude of employment discrimination cases exist that could have resulted in a favorable ruling for the company if the business would have provided employee policies that set out the company’s expectations.

If your business currently does not have an employee manual, it would be prudent to seek the guidance of a human resource professional or an employment attorney who can assist in developing policies that protect both your company and employees.

3. Failing to draft shareholder’s agreements

Another potentially catastrophic mistake small businesses make is failing to draft shareholder’s agreements when multiple partners form a business. If a partner decides to leave, dies, gets divorced, sells their interest, or if the business closes, litigation will likely ensue to address these particular issues in the absence of a shareholder’s agreement.

Simply put, a shareholder’s agreement is a document that outlines how the company will specifically respond to the aforementioned situations. If your company has multiple partners and does not have a shareholder’s agreement, consider talking with a small business attorney who can draft an agreement that will work for the best interests of all parties involved.

4. Failing to remit payroll or sales tax to the appropriate government agencies

Regarding taxation, small businesses have two legal duties: collect sales tax and collect payroll tax if you have employees. Failing to remit these funds to the appropriate state and federal agencies can easily get a small business shut down. To easily address payroll taxes, find a payroll service to automatically remit these taxes. Also, consider setting up a separate banking account to collect and remit sales taxes. However, if you are currently dealing with tax issues, consider consulting with a tax attorney who specializes in small business issues.

5. Failing to control statements about competitors

With the prevalence of social media today, everything you say on behalf of your business online can be used as evidence against you if you are sued by a competitor for libel. The temptation for small businesses to fight among each other is great, but the consequences of a libel suit can easily bankrupt your business. If you are unsure whether something you post is libelous, contact an attorney for clarification.