Starting a new business can be a daunting and an expensive process for new entrepreneurs. Quite often, the sole focus of a new business owner is establishing the physical framework of the business, which may include essential building blocks such as finding a space in which to operate, creating a brand presence through a creative name and specialized product/service, and handling necessary employee and tax obligations. Often first-time business owners establish relationships with suppliers, marketing professionals, and accountants out of necessity to assist in the start-up process, but forego contacting a business attorney until after the first few years of their business venture.
By contrast, entrepreneurs who have past experience creating and running small businesses will contact an attorney prior to starting a new venture. There are several reasons why the knowledge and expertise of a business attorney will pay significant dividends to the business owner from the outset and will likely save the business significant legal costs in the long run.
Defining a Brand through Sale of a Product, Service, or Combination
Most new business ventures start due to some form of creative thought on the part of the entrepreneur. The business owner may have an idea for a new product, service, or a way to better provide an existing product or service to its target market. This new idea is at the forefront of business planning and represents the most significant “value add” to the fledgling business. Creating a brand or trade name for the new service or product is one of the most effective ways to garner notoriety for this new venture.
One of the most significant pitfalls for the entrepreneur who foregoes consulting a business attorney during this early process is failing to recognize that the legal rights to this branding concept may already belong to an existing business, or legally conflict with the name, slogan, or logo of another business or product line. Such a conflict can result in the new business owner realizing they are legally precluded from using their brand, but only after sinking significant funds in to its development.
Contacting an experienced business attorney at the outset of this process allows the business owner to ensure that state and/or federal rights to a trade name, logo, domain name, business name, or other brand identification (intellectual property) are available for the business and aligned with one another. If the brand name is available for use, it can be adequately protected from use by competitors through state or federal registration.
Creating a Proper Entity
Whether it is through an accountant or from doing legal research through the internet, many new business owners properly identify the need to create a formal business entity out of which to run the business. The basic benefit of forming a small business entity such as a limited liability company (LLC) or an S corporation is two-fold. First, the business entity choice should protect the personal assets of the business owner from lawsuits or claims by creditors against the business. Second, the business entity choice should provide some level of tax benefit at an operational level to the business owner.
Despite these perceived benefits, if a business owner fails to consult a business attorney during this important step, these benefits may be diminished in value relative to another entity choice, or even fail to be present at all if the business owner fails to set up the entity properly pursuant to Michigan law.
First, in order to ensure a business entity will protect the personal assets of the business owner, the business owner must do a few things beyond simply forming the entity by filing the Articles at the state level. This includes creating proper entity documents as required by state law and maintaining proper separation between personal and business activities. If the creation of entity documents is attempted without the assistance of a seasoned business attorney, documents are very frequently drafted incorrectly or incompletely, resulting in additional cost to re-draft these documents properly. Similarly, pre-paid internet legal services that provide these documents often fail to address important state law, tax considerations, or provide documents that truly fit the scope and character of the new business.
Second, entity choice can play a significant role in the operational and long-term tax treatment of the business. Limited liability companies (which are taxed as partnerships by default) and S corporations (taxed under Subchapter S of the Federal Tax Code) provide unique business and tax planning opportunities to a business depending on a large number of different factors. These different tax treatments also create significant differences in the long-term tax treatment of the business, affecting choice in succession planning and the manner in which initial owners may form the business without incurring adverse tax consequences. As such, forming the proper entity for the specific product or service being provided at the outset is key in avoiding costly merger or conversion processes that may be utilized to alter initial entity choice after the business has already been formed.
Finding a Space
Unless a business owner is operating out of their residence, finding a space to purchase or lease is a necessity in starting a new business. Many business owners will choose to purchase or lease a space because of the physical layout or industry specific equipment present in a particular location. In entering into a purchase agreement or commercial lease, new business owners frequently gloss over significant obligations they are taking on in a rush to get their business open.
Unfortunately, many commercial leases and purchase agreements take advantage of restrictive and burdensome provisions that are not legally permissible in a purchase agreement or lease for residential property. This frequently includes requiring the new business owner to move in to the space accepting its current condition, without an inspection, no matter what potential structural flaws may exist. In the case of commercial leases, the agreement also often requires the tenant to pay for all necessary future repairs to the interior, and the obligation to replace all major equipment in the building, including any industry specific equipment, heating and cooling units, and utility related fixtures. They also often state that any fixtures placed on the property become the property of the landlord. Leases also often seek to take advantage of the excited, eager entrepreneur by asking the entrepreneur to individually sign a personal guaranty under the Lease, leaving their personal assets vulnerable.
It is also commonplace for the business owner to become aware of these obligations only after purchasing the building or becoming locked in to a lengthy lease. Contacting a business attorney prior to signing the document will allow a business owner to anticipate any potential issues with the space, be aware of their potential obligations for repair and maintenance, and allow the business owner an opportunity to negotiate these terms or simply find a different space if these obligations prove too daunting.
Creating Adequate Purchase, Employee, and Customer Agreements
The primary reason for delaying or altogether avoiding having a formal contract or agreement drafted by a business attorney is cost. Most frequently, the alternative is for the business owner to utilize a search engine to find a contract that appears to fit their industry. In other situations, business owners will skip the formalities and leave their business dealings to an oral agreement between themselves and the customer.
Despite the appearance of initial cost savings by repurposing an agreement from the internet or foregoing one entirely, a customer agreement that is not tailored to the product or service being provided to the public can create a catastrophic financial loss when a misunderstanding occurs with a customer. This can come from legal fees incurred through litigation and/or the judgment entered against the business in a lawsuit brought by a customer, or lost profits associated with a customer failing to pay and a business owner being unable to enforce its legal rights in collection. Frequently, these disputes arise because there is a difference in expectation between the business owner and the customer as to what was to be provided to the customer and when.
A well-drafted agreement will lay out all the material terms between the parties, and ideally leave no “grey area” for misunderstanding, or for the parties to dispute. In addition, in the event of a lawsuit against the business, provisions would be included in the agreement to benefit the business owner to the maximum extent possible under state law. In addition, any state or federal laws that enable the business to take industry specific collection efforts against a customer delinquent on payment would be in place to avoid loss of important cash flows.
At the end of the day, a well-drafted agreement will grant a business owner the maximum potential to negotiate a resolution without going to court, potentially saving the business thousands of dollars over and above the cost of drafting the agreement in the first place. Similarly, if litigation is inevitable, a well-drafted agreement gives the business solid footing on which to stand, rather than the shaky ground provided by an ambiguous, poorly drafted or incomplete contract. Unfortunately, once a dispute arises, there is no way to turn back the clock and draft an adequate agreement to avoid the dispute or aid in winning the resulting litigation.
Contacting an Attorney
Family and friends who own a small business, and other business professionals (financial advisors, CPAs, etc.) can be a great place to start for a referral to a local attorney who specializes in assisting start-ups and new business owners. Finding an attorney in this manner can be very valuable, as the referral is coming from someone who can either personally vouch for the expertise of the business attorney, or from another business professional who trusts the knowledge and integrity of the business attorney with their own clients.