Ever hear someone say, “it is much more expensive to clean up a mess than to do it right the first time around”? Well, it is usually true. Every so often a new client reaches out for help after they have tried to set up a new business entity on their own through one of the many online “DIY” services. They confess that they either did not understand what they were doing or they misunderstood what was included in the entity formation package they purchased. Whatever the source of the problem, they came to the conclusion that it was time to seek help from a small business attorney they could count on to answer their questions and walk them through the documents, filings, and various compliance issues associated with starting a small business. Here is a quick summary of three common mistakes observed when well-intentioned entrepreneurs take the do-it-yourself (“DIY”) approach:
1. Wrong Choice of Entity
For most Virginia small business startups, the choice of entity question often comes down to a Virginia LLC vs. a Delaware stock corporation. Relevant factors to consider in this analysis include whether:
(a) the company plans to raise money from sophisticated startup investors,
(b) pass-through taxation would be a positive or negative attribute for the owners, and
(c) the company plans to use equity compensation as part of attracting and retaining key employees.
2. 50/50 Ownership Split Among Two Founders
While appropriate in SOME circumstances, an even 50/50 split should not be the automatic default position founding owners settle on. When thinking about how to split up ownership equity, there are many factors to carefully consider and candidly discuss with your business partner, such as experience, skill sets, amount of money being invested, anticipated future role with the business, and other contributions (either contemporaneous contributions or anticipated contributions down the road). If the owners insist on an equal division of ownership, then the governing documents should include one or more mechanisms to efficiently resolve disputes or deadlocks among the owners.
3. Missing or Improperly Drafted Governing Documents
This problem is less true for LLCs than corporations because LLCs have less paperwork and fewer entity maintenance burdens, but a common problem nonetheless. Whether board approvals, annual consents elected officers and directors, vesting documentation, or effective IP assignments, there is often something missing or outright incorrect among the basic formation documents.
Perkins Law offers a flat fee annual service package for Virginia small business owners to address these types of problems and answer questions on various legal and compliance issues. Click here for a short article highlighting some important business entity compliance issues for small business owners.