Why Legal Compliance Should Be Built Into Your Startup From Day One

Have you ever started putting together a new piece of furniture, and then right when you’re thinking you’re done, you realize that at Step 2, you bolted the left side piece on the right side, and now it won’t function the way you need it to? (I remember doing that with my son’s bunk bed–I had to redo it all, at risk of messing up those cheap special screws and bolts, and it took an extra 2 hours). 

Building your business is a bit like trying to put a new piece of IKEA furniture together, only with businesses, you’re not handed a sort of “instructions guide” to work from. Thankfully, we’ve been helping out entrepreneurs since 2013, and have seen just about every mistake that can be made.

What Legal Compliance Means for Startups in Georgia

In lawyer-speak, legal compliance usually means following governmental regulatory laws so that you don’t have an issue with the government. However, since there are several people and entities that may come after your business, we’re going to try and touch on all of the compliance and legal issues that companies regularly face.

Key Legal Compliance Areas Every Georgia Startup Must Address

This is not a comprehensive list, but the most common areas that business owners face threats are:

• Government threats from failure to comply with their regulations
• Threats from customers (customer lawsuits)
• Employees (compliance with employment laws and regulations)
• Internal threats from business partners

The Risks of Ignoring Legal Compliance in the Early Stages

Like we mentioned in the above furniture example, there’s a big risk in throwing your company together, without a lawyer to help you. Since I’ve seen this hundreds of times, let me give you a couple explanatory examples:

• The developer that never signed away the IP: We had a new caller a couple years ago that had an amazing idea. It was (supposed to be) his company’s intellectual property, and when he first started his business, he paid a developer to develop the idea into a SAAS (Software As A Service). Had he contacted us at the start of his company, we would have made sure that he had a contract with that developer and that the developer would sign over all of the intellectual property that she was working on, to the company. Sadly, no such contract was ever made, and after getting paid (a lot) by the company, the developer jumped ship and set up her own competing company that ended up sinking the business. Did the caller have any legal recourse? Sure, but it would have cost him a solid $30,000 to pursue it, and even then, there were no guarantees that he would succeed. How could he have avoided that mess? With a contract securing his ownership of the IP (typical range is $1500, depending on the type of business it’s for). 
• Partnerships that never agreed to the terms: A friend of a friend contacted me recently, asking if there was anything he could do. He also had a SAAS company, only in this case, he had used LegalZoom to setup the LLC for himself and his business partner. Their company hit success very quickly, and had cleared $4.5 Million in annual revenue for year 4. Unfortunately, his partner got greedy, and read through their partnership agreement (the one that LegalZoom wrote). The agreement said that, at any time, the “majority partner” (which was the other guy, their split was 51% and 49%) could “buy out the minority partner for book value.” Book value is a term of art that means the value of the assets on the books, which in their business’s case, was about $5,000 worth of office equipment and laptops. What does this mean? Well, the guy calling could lose his portion of a company that cleared $4.5 million in revenue, and be left with about $2,500. Yes, you read that right. (For the record, we were able to help him get out of the situation, but it was a major challenge.) Having a partnership agreement in place would have avoided the hassle and cost for a significantly lower price tag. These are usually in the $1500 range, depending on the number of partners and the type of entity. 

A Practical Legal Compliance Checklist for Startups

Here’s a quick and easy checklist of fixes that are very low cost, initially, to avoid very high costs later on:

• Have an attorney set up your company, professionally, so that your company is properly registered with your state, has all of the corporate documents and formalities setup, appoints a professional registered agent and has your corporate binder or operating agreement written. 
• If and when you get employees (yes, even if they’re “just contractors”), get employment contracts written specifically for the job(s) that the employees are doing (see above example of the developer). 
• Make sure to get your business license in the county you’re in, and if you’re selling anything that requires additional licenses or certifications, get those registered as well. 
• Get your company an EIN, and start filing taxes based on that EIN (don’t use your social–you want to build your company’s credit). 
• If you have any business partners or investors of any sort, even if it’s just employees that you’re giving a small piece of the company to, make sure that you have a solid partnership agreement written by an attorney so that you don’t find yourself in the same bind as the guy in the above example.

Common Compliance Mistakes That Can Lead to Legal Trouble

In addition to the 2 examples above (about the developer that stole the IP and the business partner that threatened to take all of his partner’s ownership for pennies on the millions), common mistakes for new business owners include:

• Commingling of business assets with personal assets: If you’ve researched new business issues, you’ve probably seen the words “piercing the corporate veil.” This is where a court will throw out limited liability for a business owner, and allow the plaintiff in a lawsuit to go after the business owner personally, rather than just the business itself. It’s a big deal–maintaining limited liability. You don’t want to lose your life savings and all of your inheritance because one of your company managers went crazy and ran afoul of labor laws harassing one of your other employees! How do we maintain limited liability? We keep our business assets separate from our personal ones. This is the opposite of “commingling” assets, where we use company funds to pay for something that should be a personal expense (like groceries). We also “respect the corporate formalities,” meaning that we hire professionals to draft and necessary paperwork and file it for us. 
• Most new companies need contracts with their customers: Obviously, if you run a restaurant, this doesn’t apply, but for most of us business owners, we’re selling a service and the scope of that service needs to be laid out in a contract (this also applies to product sales if the products can be misused and harm someone). I’ve seen hundreds of well-to-do new business owners get pulled into the quagmire of “scope creep” by a professional scope creeper, that takes their “flat fee” and mutates it into an unlimited workload that, they argue, must be done or else. Trust me, there are necessary boundaries that we need to put into agreements that avoid these creepers!
  • For example, we had a roofer client that strongly advised against using a (cheaper) building material for a large commercial roof. Their customer demanded that they use the cheap materials, even with the risks, and (thank God!) the client called us to get a contract written up. We specifically put in the agreement that their customer understood the risk, and would not hold our client liable for damages caused by the inferior roof materials. Lo and behold, the roof caved in about 5 years later. Our clients got a threat letter, and we shoved that contract right back in their face. We didn’t hear anything from them after that! Had we not created that boundary in the contract, though, they would have had to pay the entire cost of a new roof (about a $500,000 claim, well worth the $1000 agreement we put together!)

Tips for a Scalable Startup Compliance System

Listen, we know that the legal budget for startups is very limited. We don’t want you to burn through your resources, either, so my tip is this: keep the legal fees proportionate to the risk you avoid and the benefits you get from it. In a perfect world, we’d have all the legal documentation set up at the start, but most startups can’t afford that. That’s ok. Let’s break down the risk. If your business has 5 customers a month, doing roughly $1,000 worth of business with your company each month, maybe you can handle the risk of not having a professionally drafted customer contract just yet. When you’ve got 50 customers, though, that’s 10x the risk that one of those customer contracts will go south–and create a problem for you. Just because you haven’t had an issue before, doesn’t mean you won’t in the future, and that is especially true as your company scales up! At Sparks Law, we like to tailor our legal solutions around the proportionate need our clients have, and meet them where they’re at. 

Consult an Experienced Georgia Small Business Attorney

One of my favorite things to do, is speak with new business owners and hear their new ideas and entrepreneurism. We do our best to get them the legal solutions that fit in their budget and gets them the biggest bang for their buck. Your success is our success! Give us a call or reach out online to learn more.