5 Legal Mistakes Small Businesses Make (And How to Avoid Them)

Starting a small business is exciting, but legal missteps can be costly. Here are five common legal mistakes and how to avoid them.

1. Operating Without the Right Business Structure

Many entrepreneurs start as sole proprietors without considering the legal implications.

The Problem

Sole proprietorships offer no liability protection. Your personal assets are at risk if someone sues your business or you can't pay debts.

The Solution

Choose the right structure:

• LLC: Liability protection with tax flexibility
• S-Corp: Tax benefits for profitable businesses
• C-Corp: Best for businesses seeking investment

Consult with a business attorney and accountant to determine the best structure for your situation.

2. Neglecting Written Contracts

"A handshake deal" might seem friendly, but it leaves you vulnerable.

The Problem

Without written contracts:

• Terms are unclear and disputable
• Enforcing agreements is difficult
• You have little legal recourse
• Misunderstandings damage relationships

The Solution

Always use written contracts for:

• Client agreements
• Vendor relationships
• Employee terms
• Partnership agreements
• Independent contractors

Key contract elements:

1. Clear scope of work
2. Payment terms and schedule
3. Deadlines and deliverables
4. Termination clauses
5. Dispute resolution process

3. Misclassifying Employees vs. Contractors

This is one of the most common and expensive mistakes.

The Problem

Incorrectly classifying employees as independent contractors can result in:

• Back taxes and penalties
• Missed benefits payments
• Legal action from workers
• IRS audits and fines

The Solution

Use the IRS guidelines to determine classification:

Employee indicators:

• You control work hours and methods
• You provide tools and equipment
• Ongoing relationship
• Work is core to your business

Contractor indicators:

• They control how work is done
• They use own tools
• Project-based relationship
• They serve multiple clients

When in doubt, consult an employment attorney.

4. Ignoring Intellectual Property Protection

Your business's intellectual property (IP) is valuable and needs protection.

The Problem

Without IP protection:

• Competitors can copy your brand
• You lose market differentiation
• Revenue opportunities disappear
• Business value decreases

The Solution

Protect your IP through:

Trademarks

• Register your business name
• Protect logos and slogans
• Secure domain names

Copyrights

• Register original content
• Protect marketing materials
• Secure software code

Trade Secrets

• Use non-disclosure agreements
• Limit information access
• Document proprietary processes

Patents (if applicable)

• Protect inventions
• Secure utility patents
• Consider design patents

5. Non-Compliance with Employment Laws

Employment law is complex and constantly evolving.

The Problem

Non-compliance can lead to:

• Discrimination lawsuits
• Wage and hour violations
• OSHA penalties
• FMLA violations
• ADA non-compliance

The Solution

Stay compliant by:

Creating an Employee Handbook

Include policies on:

• Anti-discrimination and harassment
• Leave policies (sick, vacation, FMLA)
• Workplace safety
• Code of conduct
• Disciplinary procedures

Maintaining Proper Documentation

• Job descriptions
• Performance reviews
• Disciplinary actions
• Time and attendance records
• Payroll records (keep for 3+ years)

Staying Current with Laws

• Federal employment laws
• State and local regulations
• Industry-specific requirements
• Regular compliance audits

Additional Legal Best Practices

Insurance Coverage

Protect your business with:

• General liability insurance
• Professional liability (E&O)
• Workers' compensation
• Commercial property insurance
• Cyber liability insurance

Regular Legal Audits

Conduct annual reviews of:

• Contracts and agreements
• Employment practices
• Regulatory compliance
• Insurance coverage
• IP protection

Build a Legal Team

Don't wait for problems. Establish relationships with:

• Business attorney
• Employment lawyer
• Accountant/CPA
• Insurance broker

When to Seek Legal Help

Consult an attorney for:

• Business formation and structure
• Contract drafting and review
• Employment issues
• Intellectual property matters
• Litigation threats
• Regulatory compliance questions

Conclusion

Legal mistakes can be costly, but they're largely preventable. Invest in proper legal structure, documentation, and professional guidance from the start.

Remember: Legal fees for prevention are far less expensive than costs for fixing problems after they occur.