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All the Legal Sides of Owning a Startup


By Goran Bogunovic, May 18, 2017

When you’re starting something new that also happens to be huge – like your own business, you can easily fall into a trap of making up excuses that legitimize your fear of becoming an entrepreneur.

For example – the paperwork. It looks so confusing and complicated. You can barely do your own taxes, how are you supposed to handle everything around your startup? How does one write a contract? Are you a founder or a co-founder? Being a CEO sounds awesome, but what does it actually mean, in legal terms? How do you legally protect your idea? It seems there’s so little you know.

Oh, god… You’ll probably end up in prison by accident because you’ll break a law out of innocent ignorance. And then your plans to change the world with your startup will be replaced with a new goal: to convince your mother you’re not a disappointment.

animals-prison-captivity-badger-sadness-nature

Ok, stop panicking and take a deep breath. Relax.

While it’s completely normal to get stressed out when you face a combination of huge responsibility and a foreign ground, there is nothing that cannot be learned. Prepare for a long read, but a worthy one. The title does say ALL the legal stuff, doesn’t it? Treat this post as your comprehensive guide through the startup legal basics.

With Legal Counselors You Can Hire, Why Should You Care?

Of course, as an inexperienced startupper, you are not left all to yourself. There are experts who can help you with their knowledge and professional services.

But there is a certain amount of legal stuff you have to know in order to understand what you’re getting yourself into. If you’re a complete newbie, it is advisable to get a grip of the fundamental things for at least two reasons:

  • Your startup is your garden and it’s your responsibility to protect it, take good care of it, and help it grow. Knowing the legal sides makes you a competent gardener and enables you to make smarter choices.
  • By letting someone else completely handle every single bit of your company’s paperwork while you have zero interest in what’s going on, you risk becoming a lousy businessman. And it also puts your business in a vulnerable position.

Startup experts such as Paul Graham believe founders shouldn’t get caught up in details. But small businesses are separate legal entities and you have to know at least the basics.

In addition, you’re the decision maker.

Your startup is your garden and it’s your responsibility to protect it, take good care of it, and help it grow. Knowing the legal sides makes you a competent gardener and enables you to make smarter choices.

We don’t mean to burst your bubble, but not all legal counselors are good for your business. They might propose solutions that will cost you more for the sake of personal benefits (i.e. their personal additional profit), which is why you should know all of your options to prevent mistakes.

This doesn’t mean you shouldn’t hire a counselor at all. On the contrary, your startup will need one, but you have to be careful to choose a competent person for the job.

Startuppers are usually not very profit-oriented in the beginning and they seize every opportunity to save any penny they can. This is why you’ll frequently see them hiring lawyers who are low-budget or are friends/cousins of the company’s employees. Make sure your lawyer (or a law firm you’re thinking of hiring) has relevant experience in the following fields:

  • Contract law
  • Employment law
  • Intellectual property laws
  • Real estate and tax laws
  • Corporation, commercial, and securities law

Sometimes, it’s not a bad idea to have several legal counselors who will cover different legal areas. Try to assess how much can you handle yourself and by all means – interview several lawyers before making a decision. While most startuppers are used to handling things on the go, this is the part where you have to become serious. You can also check low-cost or even free legal advice offered online by those who are bringing it back to the startup community. But as your business grows, you’ll need a legal counselor within the company.

legal advisor startup

Making a Clear Contract With the Founders

As the lecturers from the University of Stanford cleverly stated, execution is what has value, not the idea itself. Too often it happens that the team agrees to give the biggest credit to the person who is responsible for the idea and so, naturally – a lot of company’s equity goes to him or her. But of course, if not all members contribute equally, the share should be split accordingly, with different percentage values.

Although everything within a startup is a matter of agreement, if the stock allocations end up being divided too disproportionately, it’s definitely a red flag.

Founders’ agreement ensures the following:

  • All founders have agreed about the role division and identified the level of responsibility for each individual, as well as the ways of collaboration. It is crucial to define who’s doing what and nurture a startup culture with equality in focus, opposed to any sort of negative system (such as unchangeable hierarchy of power).
  • Each party’s percentage of ownership is stated and market vesting terms are defined. For example, in the startup world, there is something called the standard vesting schedule: it includes four years + one year cliff. Vesting is important in case some of the founders decides to leave the company.
  • Intellectual property is assigned to the entity. Many founders make a mistake by assigning the IP to an individual when in fact it should belong to the company. In other case, your startup may lack the legal right to actually sell the product or service, which leads to more exhaustive paperwork.

To sum it up: in the founders’ document – you define every possible scenario that may occur and agree in advance about what is the acceptable way of behavior and the right way to handle them. It includes answers to questions such as: what is to be done if some of the founders doesn’t follow the rules; what is the startup’s mission and goal and how it is carried by each party; what salaries are we talking about, etc.

Even though it’s likely you’re plunging into the world of startups side by side with your friends or even family – keep in mind that things can get pretty ugly in the business world. Having the founders’ agreement is a cornerstone of your legal documentation. It’s not about trust, but about safeguarding your future, both personal and professional. Kinda like a having a prenup in your marriage.

contract founders startup

How Do You Prevent Your Idea From Getting Stolen?

You can’t. It is impossible to actually prevent your idea from getting stolen.

However, it is possible to legally protect yourself and tackle the bastard who was daring enough to try to make serious money out of your efforts. But there’s another side to this problem.


Paul GrahamWhen you have multiple founders, esprit de corps binds them together in a way that seems to violate conservation laws. Each thinks “I can’t let my friends down.” This is one of the most powerful forces in human nature, and it’s missing when there’s just one founder. Paul Graham, venture capitalist, co-founder of the Y-combinator

Get this: there are around 7.4 billion people on the planet. And even though you might think your idea is revolutionary and so out of this world, chances are – somebody already thought of it. The only difference lies in the agility, how far does one carry his idea, and how fast he starts working on it. Taking care of the issue of intellectual property saves you the trouble of claiming your idea without any valid proof of documentation. Even though you might have came up with the idea first, the only thing that matters is who called a dibs on it first.

When it comes to intellectual property, you should understand several different notions: patents, copyrights, trademarks, and confidentiality agreements.

By registering a patent, you provide the best possible legal protection of your product. Usually, you hire a specialized lawyer who assists you in filling the application and, if you fulfill all the requirements – your product (or idea) is legally protected.

Copyrights are the exclusive rights to copy and reuse already made original works. This includes all types of media and content, such as books, photographs, articles, software, etc.

When you register your trademark, you protect your company’s name and recognizable symbols, for example – logo and slogans, that not only differentiate you from others – but are exactly what make your startup what it is. Technically, just by using the trademark publicly while doing business is enough. However, there are additional perks when you register. For example, if you happen to become the victim of cybersquatting, you can easily file a suit and solve the problem.

One of the most important legal documents is the non-disclosure agreement. It basically forbids you and your partners of publicly sharing certain information that are stated in the document. Those who sign it are obligated to fully respect the provisions of the contract and in many cases, we’re talking about a business idea or a product that’s not yet on the market. These are to be strictly respected.

Deciding on the Legal Form of Your Business


Lindsay Manseau Starting your own business is like riding a roller coaster. There are highs and lows and every turn you take is another twist. The lows are really low, but the highs can be really high. You have to be strong, keep your stomach tight, and ride along with the roller coaster that you started.Lindsay Manseau, photographer and entrepreneur

Now, this is where you should definitely call up a legal counselor. As every startup is very specific (i.e. type of product/service it offers, number of founders, amount of money at stake, geographical area within which it is doing business, business model and size, market it’s aiming at, etc.), legal advice is needed in order to find the best suitable business form.

Most U.S. startups choose to start as corporations or LLCs, and it’s with a very good reason. In the U.S., C corporations and S corporations are formed under the state law and they are the most frequent choice for venture backed businesses and they have a reasonable tax treatment. In case of LLC (limited liability company), you have a combination of pass-through taxation of a defined type of partnership and limited liability of a corporation. Depending on what part of the globe you live in, there are different business structures you can decide on.

Here are the two most common options:

  • Sole proprietorships: depending on a specific country’s corporate law system, the definition of sole proprietorship may vary. It is considered to be the simplest form of starting a business and it implies a solo founder. It is the most common form chosen by those have decided to become self-employed.
  • General partnership: this is a business structure that implies several partners (i.e. two or more) agreeing about starting a business together while having unlimited liability. However, they are all personally liable for any legal issues or debts the company faces. You should be cautious when deciding on this form and precisely define each party’s responsibility in case of unfortunate events. Make sure everything is stated in the founders’ agreement.

Choosing your business structure should not be a hasty decision. Take your time to evaluate what your startup actually needs and explore different options. Don’t be afraid to ask as many questions as you’d like to your legal advisor: it is in his job description.

startup legal

Handling the Taxes Like a Boss

The consequences of not paying taxes can be various: from light cases of paying a penalty fee to more serious ones such as having your property seized or even ending up in jail.

There’s no need to panic, though: you just need to have everything legally covered so you can do your taxes according to law. The amount of taxes you’ll pay depends on several factors and it is predominantly defined by your chosen business structure. Here are some of the legal documents you need to get straight in order to ensure your business is running smoothly with respect to the legal regulations:

  • Take in mind the sales tax: every single product you sell is a subject of taxation
  • Don’t forget the payroll tax: the government doesn’t care how you split the profit within your startup team. However, it does care about how you handle the paperwork. Formally, both you and your partners are employees in your startup and so you have to set a payroll system. You have to have full employment documentation (e.g. tax forms, employee benefit forms – health insurance and possible perks, company policies on vacations, etc.)
  • Make sure you’re paying the right amount: take in mind the value added tax.

There are also U.S. specific documents that are crucial for proper tax handling, such as the famous Section 83(b). As Kevin Criddle, associate at the DLA Piper said:

One of the more important tax decisions founders of early-stage companies will face is whether or not to make an election under Section 83(b) of the Internal Revenue Code for stock awards or other acquisitions of shares subject to vesting. By making this decision promptly upon acquiring the shares, founders can avoid missing the 83(b) filing deadline and protect themselves from significant tax consequences down the line.

Basically, it enables founders to speed up the process of determining taxable income on any purchase that is subjected to vesting or on restricted stock awards.

In any case, you should definitely hire an experienced accountant or a specialized tax lawyer to help you out with taxes. It’s not something you should joke around with by following DIY approach.

taxes startup

Choosing a Legally-cleared Name and Handling Your Website Wisely

We always seem to get back to the topic of importance of choosing a proper company name, but this time – we’ll talk about it from the legal perspective. It is mandatory to check if someone else has already built their brand around the name you came up with. Only this way will you prevent trademark infringement and unpleasant legal issues. Here’s what you can do:

  • If you’re an U.S. citizen, check if a certain trademark is registered here or do a search inquiry via the international lookup tool here.
  • You can also use Google to see if there are registered companies under your name or a similar one, so to avoid any possible confusions.
  • There is also an option of finding a lawyer who’s specialized in intellectual property law. Hire him to do a professional trademark research for your startup.
  • If your desired domain name for the business website is taken – there are alternatives. Check out our previous comprehensive post on the topic.

As for the other legalities revolving around your website – you should definitely have a well written Privacy Policy and Terms of Use. Yes, it is the long-length document you never read but tick the box anyway.

Back in 2015, a determined fellow named Alex Hern decided to read all the fine print online nobody ever does. He found out these legal documents are vastly out of date or simply copy-paste template documents you can find online. So, has an actual legal dispute ever happened because of the terms and conditions? Here’s what Mr. Hern noted:

In 2006, video game developers Blizzard sued MDY, a company which made software that let users cheat in World of Warcraft, Blizzard’s bestselling massively-multiplayer online game. The case alleged that using the software, called Glider, violated Blizzard’s terms of service.

So there’s  that… It’s obviously definitely better to be safe than sorry.

In addition, the fact the vast majority of people do not read terms and conditions can actually be your business advantage. As for the privacy policy, it should clearly display what type of information does the website contain and where does it come from, is it bind with the COPPA act, how does it use cookies, etc.

Carlos Eduardo Espinal from thedrawingboard.me is a partner and co-manager of Seedcamp, Europe's premier micro seed investment and mentoring program for young entrepreneurs, who has an amazing podcast and a serie of different blog posts that are all startup-oriented.

Bonus advice: This is perhaps needless to say, but because we aim to give you a thorough overview of the legal basics for your startup – we’ll just underline it: prepared contract forms are crucial for great businesses to operate as they should.

Huh, are you feeling a bit overwhelmed? Yes, this might be a lot to handle. But all things seem much more complicated and scarier until you actually start doing them. You don’t have to be an expert but understanding the basic legal stuff will certainly make you a more competent businessman. There are incredibly useful resources online you can use.

Take thedrawingboard.me as a great example: Carlos Eduardo Espinal is a partner and co-manager of Seedcamp, Europe’s premier micro seed investment and mentoring program for young entrepreneurs. On the mentioned website, Espinal publishes an amazing podcast and a serie of different blog posts that are all startup-oriented.

And don’t forget Domain.me as a supporting friend of startups! This article is part of our startup series, so if you have an amazing idea on your mind – check our blog and find all the information you need! Are you looking for a perfect online home for your website? Check out the availability with .ME!

 


Author:

Goran Bogunovic

Now, you're probably wondering how I got here! Running a marketing agency, educating people about branding, and helping you to develop your own presence online. To understand, you’ll need to follow me @Domain.Me

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