Starting a small business is an exciting and rewarding journey. Whether you’re passionate about turning a hobby into a full-time career or solving a problem with a new product or service, the initial steps you take will lay the foundation for your success. While there are many aspects to consider when launching a business, the legal side is crucial and cannot be overlooked. Ensuring that you follow the proper legal steps helps protect your business, minimizes risk, and sets you up for long-term success.
This guide provides an overview of the key legal steps that every small business owner should take to protect themselves and their business from potential legal issues down the road.
1. Choose a Business Structure
One of the first legal decisions you’ll make is selecting your business structure. Your choice will impact your taxes, liability, and day-to-day operations. There are several types of business structures to consider, each with its own advantages and disadvantages.
Common Business Structures:
- Sole Proprietorship: A business owned and operated by one individual. It’s the simplest structure but offers no liability protection.
- Partnership: A business owned by two or more people who share responsibilities and profits. Partners are personally liable for business debts.
- Limited Liability Company (LLC): A popular structure that combines the flexibility of a partnership with the liability protection of a corporation.
- Corporation: A more complex structure that offers the most liability protection but comes with more regulations and administrative requirements.
Quote: “The key to successful business management is understanding the legal structures that apply to your business.” — Unknown
Choosing the right structure is critical because it affects how you are taxed and the legal protections you have. For example, an LLC offers personal liability protection, which means your personal assets are shielded from business debts and lawsuits.
2. Register Your Business Name
Once you’ve chosen a business structure, the next step is deciding on a name for your business. Your business name is the foundation of your brand identity and must be legally registered to avoid any future legal complications.
There are two important things to keep in mind when registering your business name:
- Check for Name Availability: You can search the U.S. Patent and Trademark Office (USPTO) database or your state’s business name registry to ensure your name is unique and not already in use.
- Register with the State: Depending on your business structure, you may need to register your business name with your state. Sole proprietors often use their personal name, but LLCs and corporations typically need to register a “doing business as” (DBA) name with the state.
Fact: According to a study by the Small Business Administration, 70% of small businesses that fail do so because of legal issues, including name disputes and trademark violations.
3. Obtain an Employer Identification Number (EIN)
An Employer Identification Number (EIN) is like a social security number for your business. It is a unique identification number issued by the Internal Revenue Service (IRS) that you will need for tax purposes, hiring employees, opening a business bank account, and applying for business licenses.
- When to Apply for an EIN: If your business has employees, operates as a corporation or LLC, or files certain tax returns, you must apply for an EIN. Even if you don’t meet these requirements, it’s a good idea to get one to protect your personal social security number.
Fact: An EIN is free to obtain and can be applied for online via the IRS website.
4. Obtain Necessary Licenses and Permits
Before starting operations, you may need to obtain certain business licenses or permits depending on your location and industry. These could range from a general business license to industry-specific permits such as health permits for food businesses or professional licenses for contractors.
Types of Business Licenses and Permits:
- Local Business Licenses: Most cities or counties require local business licenses. This is often a simple registration process.
- State-Specific Licenses: Some states require additional licenses depending on the type of business you are running.
- Federal Licenses: Businesses involved in industries like agriculture, alcohol, and transportation may require federal permits.
Quote: “The difference between a successful business and an unsuccessful one often comes down to how well they understand and comply with legal regulations.” — Unknown
To find out which licenses and permits your business needs, check with local government agencies or use online tools such as the U.S. Small Business Administration (SBA) website.
5. Open a Business Bank Account
It is essential to open a separate business bank account to keep your business finances separate from your personal finances. This is important for legal and tax purposes. Mixing personal and business funds can lead to complications, especially if your business is audited by the IRS.
Benefits of a Business Bank Account:
- Helps maintain accurate financial records.
- Makes tax filing easier by separating business expenses.
- Improves your professional image and adds credibility with customers and suppliers.
When selecting a business bank account, consider factors such as monthly fees, minimum balance requirements, and access to online banking features.
6. Set Up Your Accounting System
Proper accounting is key to maintaining the financial health of your business. You need to track your income, expenses, and taxes to ensure that your business is compliant with state and federal tax laws.
There are several options for setting up your accounting system:
- Hiring an Accountant: A professional accountant can handle all aspects of your finances, from bookkeeping to tax filing.
- Using Accounting Software: Many small business owners use software like QuickBooks, Xero, or FreshBooks to track their income and expenses.
Fact: According to the SBA, nearly 60% of small businesses do not have proper accounting or bookkeeping systems in place, which often leads to tax problems.
Creating a system that works for your business is crucial for staying on top of finances and meeting your tax obligations.
7. Understand Your Tax Obligations
Every small business is required to pay taxes, but the types of taxes you will pay depend on your business structure, location, and industry. You need to familiarize yourself with both federal and state tax laws to avoid any penalties.
Types of Taxes for Small Businesses:
- Income Taxes: Businesses are required to pay income taxes based on their earnings. The amount will depend on the structure of your business.
- Self-Employment Taxes: If you’re a sole proprietor or an independent contractor, you will need to pay self-employment taxes, which include Social Security and Medicare taxes.
- Sales Tax: If you sell physical goods, you may need to collect and remit sales tax.
- Payroll Taxes: If you have employees, you must withhold income taxes, Social Security, and Medicare taxes from their wages.
Fact: The IRS imposes penalties for failing to file taxes, so understanding your obligations is crucial to avoid fines or legal issues.
Consult with a tax professional or use tax preparation software to ensure that your business stays compliant.
8. Protect Your Business with Insurance
Business insurance is essential to protect your business from unforeseen risks, such as accidents, property damage, or lawsuits. While the types of insurance you need may vary based on your industry, there are a few basic policies every small business owner should consider.
Common Types of Business Insurance:
- General Liability Insurance: Protects against claims of bodily injury or property damage.
- Property Insurance: Covers damage to your business property or equipment.
- Workers’ Compensation Insurance: Required by most states if you have employees, this covers medical expenses and lost wages for employees injured at work.
- Professional Liability Insurance: Covers claims of negligence or mistakes made while providing services.
Quote: “In business, risk is inevitable. Insurance is not about eliminating risk but managing it.” — Unknown
Insurance protects your business from legal disputes, property loss, and accidents that could otherwise lead to significant financial setbacks.
9. Create Contracts for Your Business
Contracts are the foundation of business relationships and transactions. Whether you are working with clients, suppliers, or employees, clear and legally binding contracts can help avoid misunderstandings and provide protection if disputes arise.
Types of Contracts to Consider:
- Client or Service Contracts: Outline the terms and expectations for work done for clients.
- Supplier or Vendor Agreements: Specify the terms of supply, including pricing, delivery schedules, and responsibilities.
- Employee Contracts: Define the roles, compensation, benefits, and expectations for employees.
Fact: A well-drafted contract can protect you from potential legal disputes by clearly setting expectations and responsibilities.
10. Comply with Employment Laws
If your business has employees, you must comply with employment laws that protect both employers and employees. These laws cover everything from hiring practices to workplace safety and employee benefits.
Key Employment Laws:
- Fair Labor Standards Act (FLSA): Regulates minimum wage, overtime pay, and child labor laws.
- Family and Medical Leave Act (FMLA): Provides eligible employees with unpaid, job-protected leave for certain family and medical reasons.
- Occupational Safety and Health Administration (OSHA): Ensures that your workplace is safe and free from hazards.
Understanding your obligations as an employer will help you avoid legal issues and ensure a fair and lawful working environment for your team.
Conclusion
Starting a small business requires much more than just passion and a great idea. The legal side of starting a business is essential to your success, helping to protect your personal and business interests. From choosing a business structure to understanding your tax obligations, each legal step ensures that your business operates smoothly and is legally compliant.
By following these key legal steps, you are laying the groundwork for a successful business that will not only thrive but also withstand any potential legal challenges. While navigating the legal requirements can seem complex, remember that there are plenty of resources and professionals available to help guide you through the process.
Taking these necessary legal steps now will set you up for a smooth and successful business journey in the long term.
