Once your business plan is in place,
you can focus on keeping your company safe. Practicing some caution and taking
legal steps to secure your business and personal interests will help you avoid
common pitfalls.
Consider these suggestions as you launch your business and, if in need of
additional legal advice, remember we're here to help you find a local attorney at discounted rates. We also offer free business forms reviewed
by attorneys to help you get it in writing.
Safeguard Your Interests
You don't want to let your idea out of the bag too soon, especially if you
are leery that potential competitors will benefit. You don't want your
employees to, either. To protect intellectual property assets-including
trademarks, patents and trade secrets, have employees, contractors, consultants
and business partners sign a Confidential
Information and Invention Assignment Agreement. This agreement states that all intellectual property created or disclosed
by the company remains the property of the company.
To protect your invention, apply for a Provisional Patent. This lets you
use a "patent pending" notice to keep others from copying your
invention while you focus on starting your startup. We offer a free Provisional Patent Application that you can fill out to submit to the US Patent and Trademark Office
and start the process.
You can also include a non-compete clause in an Employment Agreement that
prohibits an employee from competing against you or soliciting your employees
or customers for a limited time after leaving the company.
Set up a Legal Entity
The next step is to decide which legal entity formation best fits your
business.
Legal structures include:
Sole Proprietorship
Partnership
Limited Partnership
Corporation
Limited Liability Company
S-Corporation
Each one requires business owners to use different tax forms, and each one
comes with its own pros and cons. As you read more about each type, remember
our incorporation specialists are available to guide you.
Sole Proprietorship
A sole proprietorship is a business owned by one person that is not
registered as a limited liability company or corporation by the state. If you
are a sole proprietor, you own all the assets but also all the liability and
debt. You are both the business and owner under the law. Under this type of
entity, you can report profits and losses on your personal income tax return.
A sole proprietorship requires little paperwork to set up but also offers
no limited liability, which means creditors can go after you personally to
settle debts.
Partnership
If a business is owned by two or more people and is not registered as a
corporation or limited liability company, it is a partnership by default.
Partners are responsible for their own taxes on their shares of income, and all
partners take on responsibility for liability and debt.
There are three main types of partnerships:
General Partnership, in which partners share
profits, management, losses, liability and responsibilities
Joint Venture, which is similar to a
general partnership but lasts only for a specific period of time
Limited Partnership, which identifies
"active" and "passive" partners (active partners are active
in the management and day-to-day operation, while limited partners are mainly
investors and not involved in the day-to-day operation)
Partnerships are generally easy to start and result in little, if any,
business taxes. You don't need a formal agreement, though it is suggested to
put everything in writing. Liability is not limited, which means creditors can
go after you personally.
The exception is Limited Partnership, which must be formed under a state's
limited partnership law. An agreement must be filed with the state. Limited
partners have limited liability, up to how much they invested, when it comes to
debts, while general partners are personally liable. This can help a company
get investors, because likely they will be limited as far as liability, but may
provide a concern for the general partners who end up shouldering most of the
liability themselves.
Corporation
A corporation means the business, not business owners, are liable for
business debts. Corporations file taxes separately from owners, and owners only
pay taxes on profits they personally receive. While owners may lose their
investments, their personal assets are protected.
Each state has its own regulations as to how a corporation is set up. You
will need to register your legal name with your state government and set up a
business name.
We offer an articles of incorporation worksheet document to help you gather the information needed to form a corporation.
Corporations let you raise revenue because you can sell stock once you
incorporate. Stock certificates offer
proof of purchase of stock to a stockholder.
Corporations are expensive to set up and fall under closer government
scrutiny. They also pay more taxes. Seek help of a business attorney before
proceeding and, if in need of legal advice, remember our On Call Attorney
service can help.
Limited Liability Company
A limited liability company, or LLC, shares characteristics of both a
corporation and a partnership or sole proprietorship. It offers limited
liability to its members, like a corporation, but unless the entity chooses to
be taxed as a corporation, the income flows through to owners and they declare
profits and losses on their personal income tax returns.
This type of business structure is formed under state law, which differs in
each state when it comes to LLCs. According to the Internal Revenue
Service, none of an LLC's members are
personally liable for its debts.
Most members' earnings, however, often face self-employment taxes. That may
end up costly for members.
Subchapter S-Corporation
The Internal
Revenue Service refers to S corporations
as corporations that pass corporate income, losses, deductions and credit to
shareholders for federal tax purposes. What that means is that the shareholders
report income and losses on their personal tax returns.
The company must first file as a corporation, and then file paperwork
requesting to be classified as an S corporation.
The Small Business
Administration states that an S
corporation provides tax savings because shareholders who are not employees are
not subject to employment tax on the net income of the business. Income is paid
to them as 'distribution,' not as 'wages,' and is taxed at a lower rate. An S
corporation can also continue dong business easily if a shareholder leaves.
An S corporation requires each shareholder to receive "reasonable
compensation," or it risks being flagged by the Internal Revenue Service.
The SBA cautions that if shareholders aren't paid fair market value, the IRS
may reclassify their earnings as 'wages.'
Whether to Incorporate
Forming an LLC or a Corporation protects your business name, prohibiting
other businesses within your state from using your name and includes benefits
like limited liability for shareholders.
It gives you legitimacy that helps when raising funds and partnering with
other companies. It also offers liability protection because your business is a
separate entity, which protects your assets including your house, car and
savings.
Other Steps to Protect Yourself
When starting a startup, it pays to safeguard yourself. Open your own mail
so you can track finances, and make sure you are the first person to see any
complaints or new business opportunities. Make sure to use passwords and other
computer steps, and avoid storing sensitive financial data online.
Share your financial data with your accountant and lawyer, but limit who
else sees it. Play it safe, requiring anyone with whom you share confidential
information to sign a Non-Disclosure Agreement.
Finding Legal Advice
Startups may not want to spend money on legal advice, but it can help you
avoid legal pitfalls and protect your assets. We offer Non-Disclosure Agreements, as well as information on protecting
trademarks, patents and service marks. Our On Call service links you to a local
attorney within 24 hours and provides a way to get your work reviewed to make
sure you've done it right.
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