Starting and running a business is risky. Statistics show that nearly as many businesses fail each year as the number of those that start up. Being in business means you put your ego on the line, and there’s not much you can to do protect this. You also put your money on the line, and here’s where you can take steps to protect yourself. Here are five ways to provide you with a measure of financial protection:
1. Choose a business structure wisely
From a legal perspective, a business can be set up in any number of ways: sole proprietorship, partnership, limited liability company or corporation. To obtain personal liability protection related to claims arising from the business, your options are limited to:
- Limited liability company. This is an unincorporated business set up under state law that usually has the same tax treatment as partnerships, where profits and losses pass through to owners who are taxed on their share on their personal returns.
- Corporation. This can be a C corporation, which pays taxes on its profits or deducts its losses, or an S corporation, which passes through profits and losses to owners who pay tax on their share on their personal returns. (whether for tax purposes you use a C, a regular corporation for tax, or an S, a pass-through entity where owners are taxed on their share of business profits)
Obtaining personal liability protection from both of these choices means that if the business is sued and loses, your personal assets – your home, savings account, etc. – can’t be used to satisfy a settlement or judgment.
2. Get insurance
There are numerous risks for which you need insurance:
- General liability coverage. for injury claims by third parties, such as a customer who slips and falls on your premises. If you work from home, be sure your homeowners policy will cover you in case a business visitor is injured in your residence, a lesson I learned when a client of mine tripped and needed 10 stitches to close the gash on her face.
- Commercial auto insurance. Make sure the policy on your personal vehicle will cover any accidents incurred while you’re on business.
- Commercial property coverage. Coverage for loss of property through damage, destruction or theft.
Work with a knowledgeable insurance agent or broker who is familiar with your industry and the risks you face.
3. Use agreements and contracts
Legal actions can be costly and result in decisions that may not be favorable to you. The first line of defense against potential actions is to have good contracts and agreements for protection so you can avoid legal programs. Consider using:
- Nondisclosure and noncompete agreements. Nondisclosure agreements with employees bar them from disclosing company secrets (e.g., price lists, customer lists); those with third parties prevent them from using proprietary information that they learn in discussing or working with you. Noncompete agreements prevent employees and third parties essentially from opening up a competing business near you (at least for a certain period of time).
- Sales contracts and vendor agreements. Don’t let misunderstandings with customers and suppliers trigger legal disputes. Put the terms of agreement in writing (e.g., what happens if a customer doesn’t pay for work performed or goods delivered).
- Entity operating agreement. If you are in business with other people, avoid controversies with them by spelling out the working relationship in your operating agreement (e.g., a limited liability company’s operating agreement).
You can learn about the contracts and agreements that may be needed in your business from FindLaw. An attorney can draft the forms required. Or you can create your own contracts and agreements using templates and downloadable forms that you can customize to your needs (for example, Office Depot). But have your contracts and agreements reviewed by an attorney to ensure that you’re properly protected.
4. Work with professionals
You don’t know everything. You probably don’t even know what you don’t know. The best strategy for getting things right is working with people who have expertise in areas you don’t. The cost of using professionals likely is cheaper than the cost of making a big mistake. Some professionals you may want to work with:
- Attorneys. Be sure to use one knowledgeable in the area of expertise you need (e.g., a commercial lease, employment issues).
- CPAs. Certified public accountants or other tax professionals can help you with all tax matters, including income taxes (federal and state if applicable), payroll taxes and sales taxes (if applicable).
- IT. If your business depends on a computer or mobile device for scheduling, marketing, bookkeeping and more, you can’t afford downtime or to have an IT professional on staff. Find a firm that can help you as needed.
5. Stick to your values
You start a business with a dream and a plan to make it succeed. Unfortunately, it may become too easy or too tempting to cut corners or cross the line. Don’t. This can get you into trouble that will cost you dearly. For example, paying a worker “under the table” can create numerous problems with federal and state agencies, and result in penalties that far exceed what you would have paid in payroll taxes on reportable wages.
As General George Patton said, “Take calculated risks. That is quite different from being rash.” Use strategies to protect yourself from financial risk to the extent possible.
This information is provided for informational purposes, may not be applicable to all situations, and is not intended to provided legal, tax, or financial advice. For specific advice about your unique circumstances, you may wish to consult a qualified professional.