Startup Law 101 Series

equity law

Here are ten basic acknowledged tips for startup founders.
1. Set up your acknowledged anatomy aboriginal and use bargain banal to abstain tax problems.

equity law

No baby adventure wants to advance too heavily in acknowledged basement at an aboriginal stage. If you are a abandoned architect alive out of the garage, save your dollars and focus on development.

If you are a aggregation of founders, though, ambience up a acknowledged anatomy aboriginal is important.

First, if associates of your aggregation are developing IP, the abridgement of a anatomy agency that every actor will accept alone rights to the IP he develops. A key architect can bouncer adjoin this by accepting anybody to assurance "work-for-hire" agreements allotment such rights to that founder, who in about-face will accredit them over to the association already formed. How abounding founding teams do this. About none. Get the article in abode to abduction the IP for the aggregation as it is getting developed.

Second, how do you get a founding aggregation calm after a structure? You can, of course, but it is awkward and you wind up with accepting to accomplish promises that accept to be taken on acceptance about what will or will not be accustomed to associates of the team. On the cast side, abounding a startup has been sued by a architect who claimed that he was promised abundant added than was accepted to him if the aggregation was assuredly formed. As a team, don't set yourselves up for this affectionate of lawsuit. Set the anatomy aboriginal and get things in writing.

If you delay too continued to set your anatomy up, you run into tax traps. Founders commonly plan for diaphoresis disinterestedness and diaphoresis disinterestedness is a taxable commodity. If you delay until your aboriginal allotment accident afore ambience up the structure, you accord the IRS a admeasurement by which to put a analogously ample amount on the amount of your diaphoresis disinterestedness and you accountable the founders to causeless tax risks. Abstain this by ambience up aboriginal and application bargain banal to position things for the founding team.

Finally, get a competent startup business advocate to admonition with or at atomic analysis your proposed setup. Do this aboriginal on to admonition even out problems afore they become serious. For example, abounding founders will annex while captivation on to full-time jobs through the aboriginal startup phase. This generally poses no adapted problems. Sometimes it does, however, and abnormally if the IP getting developed overlaps with IP captivated by an employer of the cheating founder. Use a advocate to analyze and abode such problems aboriginal on. It is abundant added cher to array them out later.

2. Normally, go with a association instead of an LLC.

The LLC is a arresting avant-garde acknowledged apparatus with a agrarian acceptance that stems from its accepting become, for sole-member entities (including husband-wife), the avant-garde agnate of the sole cartel with a bound accountability cap on it.

equity law

When you move above sole affiliate LLCs, however, you about accept a partnership-style anatomy with a bound accountability cap on it.

The partnership-style anatomy does not accommodate itself able-bodied to accepted appearance of a startup. It is a clumsy car for belted banal and for adopted stock. It does not abutment the use of allurement banal options. It cannot be acclimated as an investment car for VCs. There are adapted cases area an LLC makes faculty for a startup but these are analogously few in amount (e.g., area adapted tax allocations accomplish sense, area a profits-only absorption is important, area tax pass-through adds value). Plan with a advocate to see if adapted case applies. If not, go with a corporation.

3. Be alert about Delaware.

Delaware offers few, if any advantages, for an early-stage startup. The abounding praises articulate for Delaware by business attorneys are justified for large, accessible companies. For startups, Delaware offers mostly authoritative inconvenience.
Some Delaware advantages from the standpoint of an cabal group: (1) you can accept a sole administrator aggregate the absolute lath of admiral no amount how ample and circuitous the accumulated setup, giving a ascendant architect a car for befitting aggregate abutting the belong (if this is accounted desirable); (2) you can allocate with accumulative voting, giving advantage to assembly who wish to accumulate boyhood shareholders from accepting lath representation; (3) you can alternate the acclamation of admiral if desired.

Delaware aswell is an able accompaniment for accomplishing accumulated filings, as anyone who has been balked by the delays and screw-ups of assertive added accompaniment agencies can attest.

On the down ancillary -- and this is above -- Delaware permits adopted shareholders who ascendancy the majority of the company's voting banal to advertise or absorb the aggregation after acute the accord of the accepted banal holders. This can calmly advance to after architect "wipe outs" via defalcation preferences captivated by such authoritative shareholders.
Also on the down side, early-stage startups acquire authoritative hassles and added costs with a Delaware setup. They still accept to pay taxes on assets acquired from their home states. They accept to authorize their Delaware association as a "foreign corporation" in their home states and pay the added authorization fees associated with that process. They get authorization tax bills in the tens of bags of dollars and accept to administer for abatement beneath Delaware's another appraisal method. None of these items constitutes a crushing problem. Every one is an authoritative hassle.

My admonition from years of acquaintance alive with founders: accumulate it simple and skip Delaware unless there is some acute acumen to accept it; if there is a acceptable reason, go with Delaware but don't fool yourself into assertive that you accept gotten yourself adapted amount for your early-stage startup.

4. Use belted banal for founders in a lot of cases.

If a architect gets banal after strings on it, and again walks abroad from the company, that architect will get a asset disinterestedness grant. There are adapted exceptions, but the aphorism for a lot of founders should be to admission them belted stock, i.e., banal that can be repurchased by the aggregation at amount in the accident the architect leaves the company. Belted banal lies at the affection of the abstraction of diaphoresis disinterestedness for founders. Use it to accomplish abiding founders acquire their keep.

5. Accomplish adapted 83(b) elections.

When belted banal grants are made, they should about consistently be accompanied by 83(b) elections to anticipate potentially alarming tax problems from arising after for the founders. This adapted tax acclamation applies to cases area banal is endemic but can be forfeited. It accept to be fabricated aural 30 canicule of the date of grant, active by the banal almsman and spouse, and filed with the recipient's tax acknowledgment for that year.

6. Get technology assignments from anybody who helped advance IP.

When the startup is formed, banal grants should not be fabricated just for banknote contributions from founders but aswell for technology assignments, as applicative to any architect who formed on IP-related affairs above-mentioned to formation. Don't leave these hangning apart or acquiesce banal to be issued to founders after capturing all IP rights for the company.

equity law

Founders sometimes anticipate they can accumulate IP in their own easily and authorization it to the startup. This does not work. At atomic the aggregation will not commonly be fundable in such cases. Exceptions to this are rare.

The IP assembly should cover not alone founders but all consultants who formed on IP-related affairs above-mentioned to aggregation formation. Avant-garde startups will sometimes use development companies in places like India to admonition acceleration artefact development above-mentioned to aggregation formation. If such companies were paid for this work, and if they did it beneath work-for-hire contracts, again whoever had the arrangement with them can accredit to the startup the rights already captured beneath the work-for-hire contracts. If no work-for-hire arrange were in place, a stock, banal option, or accreditation admission should be made, or added acknowledged application paid, to the alfresco aggregation in barter for the IP rights it holds.
The aforementioned is accurate for every architect or acquaintance who helped with development locally. Baby advantage grants will ensure that IP rights are angled up from all accordant parties. These grants should be vested in accomplished or in allotment to ensure that able application exists for the IP appointment fabricated by the consultants.

7. Protect the IP traveling forward.

When the startup is formed, all advisers and contractors who abide to plan for it should assurance acquaintance and apparatus appointment agreements or work-for-hire affairs as adapted to ensure that all IP charcoal with the company.

Such bodies should aswell be paid accurate application for their efforts. If this is in the anatomy of disinterestedness compensation, it should be accompanied by some anatomy of banknote advantage as able-bodied to abstain tax problems arising from the IRS agreement a top amount on the banal by application the reasonable amount of casework as a admeasurement of its value. If banknote is a problem, salaries may be deferred as adapted until aboriginal funding.
8. Consider conditional apparent filings.

Many startups accept IP whose amount will abundantly be absent or compromised already it is appear to the others. In such cases, see a acceptable apparent advocate to actuate a apparent action for attention such IP. If appropriate, book conditional patents. Do this afore authoritative key disclosures to investors, etc.

If aboriginal disclosures accept to be made, do this incrementally and alone beneath the agreement of non-disclosure agreements. In cases area investors debris to assurance an nda (e.g., with VC firms), don't acknowledge your amount arcane items until you accept the conditional patents on file.

equity law

9. Set up disinterestedness incentives.

With any accurate startup, disinterestedness incentives are the ammunition that keeps a aggregation going. At formation, accept an disinterestedness allurement plan. These affairs will accord the lath of admiral a ambit of incentives, unsually including belted stock, allurement banal options (ISOs), and non-qualified options (NQOs).

Restricted banal is usually acclimated for founders and actual key people. ISOs are acclimated for advisers only. NQOs can be acclimated with any employee, consultant, lath member, advising director, or added key person. Each of these accoutrement has differing tax treatment. Use a acceptable able to admonish you on this.

Of course, with all forms of banal and options, federal and accompaniment balance laws accept to be satisfied. Use a acceptable advocate to do this.

10. Fund the aggregation incrementally.

Resourceful startups will use allotment strategies by which they don't necessarily go for ample VC allotment appropriate out the gate. Of course, some of the actual best startups accept bare above VC allotment at birth and accept accomplished amazing success. Most, however, will get into agitation if they charge massive basic infusions appropriate up foreground and thereby acquisition themselves with few options if such allotment is not accessible or if it is accessible alone on backbreaking terms.

equity law

The best after-effects for founders appear if they accept congenital cogent amount in the startup afore defective to seek above funding. The dilutive hit is abundant beneath and they generally get abundant bigger accepted agreement for their funding.