The line between personal and business is often blurred in the world of small startups. Entrepreneurs often receive capital and ideas from family members and close acquaintances; they collaborate with partners and start ventures with friends. While these realities are a part of life for many small business owners, there are plenty of good reasons to keep certain aspects of your personal life out of the company and vice-versa.
The actions of one partner affect the entire partnership
When you choose to enter into a business partnership you’re agreeing to much more than profit-sharing and collaborative decision-making practices. You and your partners share numerous responsibilities, and that includes the responsibility to always act ethically in the name of the company. In the event that one partner acts contrary to the law, the court can hold all partners financially liable and seize personal property to repay debts, even with the protection of an LLC or corporate structure – a daunting event known in law as piercing the veil of corporate protection. Make sure you’re getting into business with people who will uphold this responsibility, and avoid offering partnership stakes to people because you feel obligated or owe them a favor.
The type of business entity you choose affects the distinction between your personal and business lives
One of the most common mistakes that inexperienced entrepreneurs make is not giving sufficient consideration to the question of what kind of business entity they will go with. Some people think that because an LLC and corporation both offer personal asset protection, it doesn’t really matter which one they choose. And creating a new business entity is very simple – see for example how to form a corporation in California. But different business entities have very specific rules that vary from state to state, and they significantly affect how you are able to make decisions and how your personal funds and tax obligations are related to the business.
For instance, creating an LLC is often a good choice for multi-partner ventures, because they offer some personal asset protection in the event of a lawsuit and allow you to avoid double taxation from company gains. However, if you intend to court venture capital investment down the road, the LLC structure can severely limit you as stock issuance is not a feature of the LLC entity. Likewise, choosing a C-corporation can help you shield your personal property from court-mandated seizure, and it enables you to issue new ownership shares for investors and others. With a corporation your tax obligations may be quite different from if you had established an LLC. Always keep in mind that you will have to pay taxes or at least follow regulations in whatever state your startup is registered in addition to any states you operate in, no matter which entity you choose.
Ultimately, choosing which type of entity to use for your venture is the first step you will take in making certain that your personal and business lives are sequestered. There are myriad factors that go into the decision, so give yourself time to properly consider them and make the best choice for you, your family, and your partners.
Keeping diligent records can help you prove your integrity
Using business funds for personal use is one of the most common ways for startup owners to diminish the protections afforded by their company structure. It’s a serious danger not to draw a sharp line between personal and business life, and the best way to guard against it is comprehensive record keeping.
In general if you’re wondering if you should keep a written record of something, the answer is yes. Any time you use an asset from the company in your personal life or the other way around, make sure to note that a reimbursement is necessary. Take diligent meeting minutes and ensure that they are emailed to all company officers and relevant investors in the immediate aftermath. If you or anyone else makes a verbal decision that will affect the financial state of the company, send out an email with the details as soon as possible. Creating a massive paper trail may not be the most exciting part of life as an entrepreneur, but it’s often the most useful way to show that you have always operated in accordance with the law.
Intellectual property challenges can emerge down the road
New entrepreneurs typically don’t devote much energy to intellectual property (IP) concerns, usually because their IP is limited in nature. However, as the company grows and evolves these concerns multiply dramatically, and it becomes more important to protect yourself from lawsuits levied by those who claim to hold the rights to your IP. The early brainstorming with colleagues and friends who chose not to join the company may result in a lawsuit from them down the road when your company is worth some money.
You’re going to need people to create things for you, such as marketing materials and operations manuals. Some founders who want to preserve cash for operations will ask their family or friends for a favor, and this is where they can get into trouble. Unless you specify that writers, designers, etc. reserve no rights and all work was commissioned for hire, then a person could claim ownership of IP in the future once you get big enough to matter. Do some reading about general IP concerns and ensure that you have written contracts for anything that is created by a person who is not a company employee.
- What is Incorporation?
- Advantages of S Corporations
- Incorporate Your Business: Why and Where
- What is a Limited Liability Company (LLC)?
- Choosing the Legal Structure of Your Business