Friday, June 15, 2007

Perhaps the LAST thing you should worry about when starting a company.

When hanging out on the Business of Software discussion boards, there are quite often posts that go like this:

Hey all, I just got the idea to design a piece of software that will revolutionize the industry. I just signed up for an LLC, so now I'm wonder what dev tools you recommend to make my first million?

Perhaps because we live in a world with way too many lawyers, I continually see people register an LLC as their first step to starting a business. I think some people do it because they think a company needs to be registered to be "legal" (ie exist). But most people presumably do it so "they don't lose their house".

OJ Simpson proved today that having an LLC doesn't protect anything.

Many people register LLC's before they write a single line of code out of this fear. This is partly because of the FUD spread (presumably by lawyers) that the second you try to sell anyone anything, a bunch of frivolous lawsuits will come at you left and right. I hear radio ads saying 1 in 4 companies will get sued in their lifetime.

I really believe this fear is unjustified. First, many of the stats about lawsuits come from the old school traditional brick and mortar land that have more then one employee. When you are selling groceries or operating a restaurant, there are many things that can happen that would prompt lawsuits.... food poisoning, people slipping on the floor, wait staff assaulting a customer, discrimination, etc...

Think about who would sue you and why. You are an average middle class person throwing together some code for a few hours after work, and you have not sold a thing. What would anyone possibly sue you for? The only thing I can even conceive of is patent infringement or some other intellectual property theft. Now lets say you start actually selling the software, now what can they sue you for? Assuming you are selling the typical trivial desktop software, not nuclear power plant management software, there is not much you could get sued for above and beyond the cost of the software itself.

"Yeah yeah Phil, but you don't know...people love making money off lawsuits, they'll say your software deleted their million dollar project file!!!".

Fair enough, but people that sue others usually actually want to make money. Lawsuit trolls are not going to waste their time to sue an individual making $60k a year just to get a few thousand dollars out of the equity of your condo. And if your software really is capable of doing major damage, you need insurance, not just an LLC.

The usual argument to this is that it only costs $100 bucks to fill out some form at their state government, and you can never be too safe. That is kind of my point. I like when geeks are so paranoid about lawsuits and then are too cheap to actually pay a lawyer to form this entity that is going to protect them. As you can see from the link above, having a legal entity selling your software is not enough to protect you.

If you really cause enough damage that someone can sue you for hundreds of thousands of dollars, any judge will happily pierce your corporate veil. If you are a one man show running an LLC, where dollars pass directly unto you, and you are the sole person that developed the software, it is quite easy to still go after your assets. I've seen it happen. Is your LLC property capitalized? Do you have regular board meetings with yourself and take minutes, etc? Are you up to date on your property declarations?

Sole-proprietor businesses have been around for years. If you are starting a new software business there is no reason to even waste a dime or a thought worrying about your business becoming a legal entity.

Now I am not entirely discouraging you from registering your company. There are many reasons where an LLC would protect and owner, and where you are likely to be sued. If you have partners you should definitely form a legal entity. If you have any employees, same deal.

Beyond just registering an LLC, you should really contact an actual lawyer if you are seriously worried about getting sued. Are you sure that boiler plate EULA from will protect you? You should also get insurance. Even if you are an LLC and have organized it well enough to "protect your house", do you really want all of your company's assets to be liened on? If you are properly insured, they will usually be the ones a plaintiff will go after. They will fight your court battles to a certain point.

Don't worry about seeming official. Get the important parts done. Finish your software. Develop a marketing plan. Beta a copy or two. Then properly get your organization together.

PS - I am not a lawyer, please don't sue me for giving you bad advice!!! ;)


At 12:20 AM, Blogger Nathan DeWitt said...

I formed an LLC simply because it made it very easy to handle tax deductions. I didn't really consider the lawsuit aspect.


Post a Comment

<< Home