Legal issues for small businesses are a growing problem. It’s now estimated that, if your business is earning under $1 million annually, you’re paying an average of $35 in tort costs per $1,000 of revenue, according to the Institute for Legal Reform. These are only the costs associated with litigation. In reality, you’re also navigating a complex web of compliance concerns, contracts, and more, all of which add to your legal burdens.
In this legal checklist for small business owners, we’ll explore ten broad categories of legal issues to address and what falls within each bracket, plus provide some tips to help you avoid litigation and insights on when to involve an attorney.
10 Common Legal Issues for Small Businesses
Before we dig in, it’s important to note that the common legal risks for SMEs and tips shared below should not be taken as legal advice. It’s essential to discuss your personal risk profile and necessary safeguards with a legal professional.
1. Business Structure Selection
Selecting the best business structure for your needs is one of the first major legal decisions you’ll make. It can’t always be changed later, and it can affect everything from how you pay taxes to legal liability, so it’s essential to weigh your options carefully.
Most Common Business Structures for Small Businesses
Each structure comes with its own pros and cons. The right fit depends on your goals, how many people are involved, and your risk tolerance.
- Sole Proprietorship: The simplest option for a one-person business is a sole-proprietorship. There is no legal distinction between you and your business, which makes setup easy, but it also means you are personally liable for all debts and obligations. This can limit your options for things like business funding.
- Partnership: A partnership is a shared business structure for two or more people. General partnerships split responsibility and liability equally, while limited partnerships let some partners invest without participating in day-to-day operations.
- Limited Liability Company (LLC): An LLC is a flexible structure that protects your personal assets. It shields your personal finances from most business debts or lawsuits while offering pass-through taxation, meaning profits are reported on your personal tax return.
- Corporation (C Corp or S Corp): Corporations are a more complex option often used for businesses planning to grow or attract investors. They are separate legal entities, which reduces personal liability but can involve more paperwork and higher tax complexity. S Corps are more common for small businesses due to their pass-through taxation, but they come with strict eligibility rules.
2. Employment Law Compliance
Hiring employees introduces a wide range of legal obligations. It’s essential to familiarize yourself with the basics of employment law to ensure you build fair, defensible systems and prevent avoidable disputes.
Most Common Employment Law Issues for Small Businesses
The majority of issues fall into just a few predictable categories.
- Misclassification of Employees and Contractors: Misclassifying workers can trigger fines, audits, and retroactive tax bills. Federal and state rules differ, so it’s important to confirm which tests apply to your business.
- Wage and Hour Violations: Wage laws govern minimum wage, overtime pay, required breaks, and recordkeeping. Mistakes in any of these areas can lead to back pay, penalties, or even class-action lawsuits.
- Discrimination and Harassment Claims: Hiring, promotion, and discipline decisions must be free from bias based on race, gender, disability, religion, age, and other protected characteristics. A lack of documentation can make defending your business difficult.
- Wrongful Termination Accusations: Terminating an employee without clear documentation or due process can result in legal claims, especially if the employee alleges retaliation or discrimination.
- Incomplete or Missing Paperwork: Gaps in documentation, from I-9 forms to job descriptions, can put your business at risk in both audits and legal disputes.
3. Contractual Agreements
Over 90 percent of SMB owners work with contracts at least monthly, Adobe reports. Worryingly, 69 percent say they’ve signed a contract without knowing what’s in it. Of those who actually read them, two-thirds say they’ve found something unexpected in the terms. It’s these areas that most often lead to contract issues and disputes.
Most Common Small Business Contract Disputes
As you read contracts, pay close attention to the areas that most often trigger disputes. While it’s important to read the full contract, you can usually zero in on core terms on digital contracts quickly by using the “find” tool (usually accessed by pressing the “control” key and “F” key together) and searching for some of the terms below.
- Payment Terms and Timing: Disagreements over when payment is due, what happens if it’s late, or how invoicing should be handled are some of the most frequent contract issues small businesses face.
- Scope of Work and Deliverables: If a contract doesn’t clearly define what’s included, your business could be forced to do extra work for free or face legal action for not delivering what the other party expected.
- Termination Clauses: Contracts should specify how either party can end the agreement, under what conditions, and what happens if one side breaches. Without this, you’re left vulnerable to sudden cancellations or disputes.
- Nonperformance or Breach: If one party doesn’t meet their obligations and there’s no clear remedy outlined in the contract, resolving the issue can take time and lead to legal expenses.
- Intellectual Property Ownership: Contracts involving creative work, software, or proprietary systems should clearly state who owns what once the project is complete. Ambiguity in this area may lead to litigation.
4. Lease Agreements
If your business rents office, retail, or warehouse space, the lease you sign is one of your most binding legal documents. Unlike consumer rental agreements, commercial leases are often customized and may include terms that heavily favor the landlord.
Many small business owners focus on the rent amount and lease length but overlook critical clauses, such as who pays for maintenance, what happens if the business closes early, or whether the lease can be transferred. These details can create major legal and financial challenges later.
Before signing a lease, it’s worth having it reviewed by an attorney who understands commercial real estate. Requesting small edits or added clauses, like early termination rights or limits on rent increases, can significantly reduce your legal risk.
5. Regulatory Compliance
Regulatory compliance refers to the laws and rules your business must follow based on your industry and location. These requirements can come from federal, state, or local agencies and are not always obvious until a violation occurs. Failing to comply can result in fines, business interruptions, or even forced shutdowns.
Types of Regulatory Compliance for SMEs
The exact requirements vary, but most small businesses need to consider the following categories.
- Business Licensing and Permits: Many cities and counties require a general business license, but additional permits may be needed for food handling, alcohol sales, construction, and other regulated activities.
- Health and Safety Compliance: Businesses with physical locations or employees must follow rules set by the Occupational Safety and Health Administration (OSHA) and similar agencies. These cover everything from fire exits and chemical handling to basic workplace safety standards.
- Environmental Regulations: Certain industries, such as manufacturing, waste management, or automotive services, must comply with environmental laws at the state and federal levels.
- Industry-Specific Requirements: Financial services, healthcare providers, transportation companies, and others often have their own regulatory bodies and rules.
- Advertising and Labeling Laws: If your business sells consumer goods or services, you may need to follow Federal Trade Commission (FTC) guidelines around truthful advertising, disclosures, or product labeling.
6. Tax Obligations
New business owners are often surprised by how complex tax filings are for companies. There are many rules for withholding and different payment timetables to follow. And while the Internal Revenue Service (IRS) will usually work with you if you wind up with a large overdue tax bill, managing everything correctly upfront allows you to avoid unpleasant surprises and tax prep stress. It also helps you avoid the worst-case scenarios, like large penalties and IRS liens.
Common Small Business Tax Compliance Concerns
Although tax compliance concerns are varied, the most common fall into a few select categories.
- Sales and Use Tax Missteps: Sales tax rules vary by state and by product. If your business sells online, you may need to collect sales tax in states where you have frequent customers or a high volume of orders, even if you do not have a physical location there.
- Estimated Quarterly Payments: Sole proprietors, LLCs, and S Corps are often required to make quarterly tax payments to avoid penalties. Missing these or underpaying can result in fees at tax time.
- Payroll Tax Errors: If you have employees, you’re responsible for withholding and submitting income taxes, Medicare, and Social Security. Failing to do so correctly is one of the most common triggers for IRS enforcement.
- Improper Deductions or Write-Offs: Overstating deductions or failing to document them properly can raise red flags during an audit. Work with a qualified tax professional to ensure your deductions are legitimate.
- State and Local Tax Variations: State-level income taxes, franchise taxes, and local business levies can be easy to overlook. These obligations vary widely depending on where your business operates.
7. Intellectual Property Protection
Intellectual property (IP) includes the unique ideas, designs, content, and branding that set your business apart. From your logo and website content to your product formulas or proprietary processes, these assets can hold significant value.
Failing to protect your intellectual property leaves it open to misuse and can weaken your competitive position if someone else claims ownership first. The right type of protection depends on what you’ve created and how you plan to use it.
Types of Intellectual Property Protection for Business
Small businesses typically rely on a mix of legal tools to protect their IP.
- Trademarks: A trademark protects brand names, logos, slogans, and other identifiers that distinguish your business. Registering a trademark with the United States Patent and Trademark Office (USPTO) gives you stronger legal rights if someone tries to copy or misuse your branding.
- Copyrights: Copyrights protect original works of authorship, such as written content, images, videos, software code, or marketing materials. Protection is automatic upon creation, but registration makes enforcement easier.
- Patents: A patent protects inventions, designs, or processes that are new and non-obvious. This is more common in product-based or tech-driven businesses and typically requires legal support to file and maintain.
- Trade Secrets: Trade secrets include formulas, processes, or systems that give your business an advantage and are actively kept confidential. Internal controls, such as nondisclosure agreements (NDAs) and restricted access, play a role in protecting them.
- Website and Digital Assets: Business websites often contain a mix of copyrighted content, branded assets, and proprietary tools. It is important to ensure these are protected both legally and through proper usage policies.
8. Business Litigation
Small businesses can face lawsuits from almost any direction, such as employees, customers, vendors, or even competitors. Even if a claim has no merit, the legal costs and time spent responding can be a serious drain on your resources.
Common Types of Small Business Lawsuits
Most claims fall into a few categories that show up repeatedly in small business environments.
- Breach of Contract: If your business fails to deliver on a written or verbal agreement, or if another party accuses you of failing to meet your obligations, this can lead to a breach of contract lawsuit.
- Employment Disputes: Lawsuits over discrimination, harassment, wrongful termination, or wage violations can arise even when you believe you’ve followed the rules. Lack of documentation often makes these cases harder to defend.
- Customer Injury or Property Damage: If a customer slips and falls, is injured by a product, or experiences damage related to your service, your business could be held liable, even if the incident was accidental.
- Intellectual Property Infringement: Using someone else’s logo, images, or protected content without permission, or being accused of it, can result in legal action. This is especially common in digital spaces.
- Defamation and Libel: Posting or sharing false statements about another business or individual, especially online, can result in a defamation claim. Even casual comments can create legal exposure.
9. Data Privacy and Security
Small businesses often assume they’re too small to be targeted or that data privacy laws only apply to large corporations. But several states have already passed consumer data protection laws, and many more are following suit. If your business collects or stores personal information, it’s important to understand which laws apply to you.
Common Data Privacy Concerns for Small Businesses
It’s important to build a data and cybersecurity strategy that fits your business and how it operates. Some of the most common things business owners overlook are outlined below.
- Storing Sensitive Data without Protections: Saving customer names, emails, credit card numbers, or employee records without encryption or access controls can lead to liability if that data is exposed.
- Not Having a Privacy Policy: If your website collects personal information, even through a contact form, you may be legally required to post a privacy policy outlining what data you collect and how it is used.
- Lack of Vendor Oversight: Using third-party services to process or store data does not remove your responsibility. If they mishandle the data, your business could still be held accountable.
- Improper Handling of Customer Requests: In some jurisdictions, customers have the legal right to request access to, or deletion of, their data. Failing to respond or following the wrong process can result in penalties.
- Exposure Through Phishing or Ransomware: Cyberattacks often start with a single employee clicking the wrong link. If customer or employee data is compromised, legal consequences can follow, especially if preventative steps were not in place.
10. Customer Complaints and Liability
Although we touched on customer liability concerns earlier, it’s worth covering them on their own due to the broad scope of potential issues.
Common Sources of Customer Liability Issues
Although many issues simply trigger formal complaints, others can damage your reputation or open the door to legal claims. We’ll review a few of the most common below.
- Injuries on Your Property: Slips, falls, and other accidents can result in premises liability claims, even if the customer’s actions contributed to the incident.
- Defective or Unsafe Products: Products that cause injury, illness, or damage may expose your business to liability, even if you did not manufacture them directly.
- Service Delivery Failures: Failing to deliver a promised service, or delivering it in a way that causes harm, can lead to claims of negligence or breach of contract.
- Misleading Marketing or Disclosures: Advertising claims, unclear pricing, or missing disclaimers can all be challenged under state consumer protection laws.
- Poor Complaint Handling: Ignoring or mishandling complaints, especially in writing, can create a paper trail that works against your business if the matter escalates.
Quick Tips for Avoiding Lawsuits in Small Businesses
While no business is lawsuit-proof, there are simple steps you can take to reduce your risk and respond more effectively if something goes wrong.
1. Use Written Contracts for All Agreements
Even informal partnerships or one-off projects should be backed by a clear, signed agreement outlining terms, responsibilities, and expectations.
2. Keep Employment Policies Up to Date
Have a written employee handbook and proper onboarding documents to help ensure fair treatment and provide a defense in the event of disputes.
3. Maintain Accurate Records
Have thorough documentation on everything, from invoices and contracts to employee write-ups and customer interactions. The information can help you settle disputes before they go to court and protect you when litigation is unavoidable.
4. Invest in Business Insurance
Make sure you have the right business insurance. For instance, general liability, professional liability, and cyber insurance can help cover legal costs and settlements in the event of a claim.
5. Address Complaints Promptly and Professionally
Respond quickly to issues and keep a record of your response to help prevent escalation and demonstrate good faith.
6. Review Legal Exposure Regularly
Schedule periodic reviews with an attorney or business advisor to identify new risks as your business grows or changes.
When to Hire a Business Lawyer
Not every issue requires a lawyer, but waiting too long to get legal guidance can make problems more expensive and harder to fix.
A business lawyer can help you make confident decisions about contracts, policies, and disputes before they escalate. Legal advice is especially useful when starting your business, signing major agreements, hiring employees, buying or leasing property, or dealing with government agencies.
If you’re unsure whether a situation needs legal input, that’s usually a good sign it does. Many small business owners try to avoid legal fees by handling things themselves, only to end up paying more to clean up a preventable issue later.
Think of legal support as part of your infrastructure. While it will help ensure you have proper defense in the event of an issue, it also allows you to build a stable foundation that protects your time, money, and reputation as you grow.
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