Starting Up, Legally, in Arizona
First order of business: establish a legal entity and familiarize yourself with what the Arizona Small Business Assocition has to offer. Too many people skip this step, and it's a huge mistake. Carving out a legal body not only protects you and your assets, but, if done correctly, it will likely lower your tax bill.
Business Formation Options
What business formation option is best for your Arizona startup? It depends on your business model, product or service, and location. In Arizona, startups can choose from the following frameworks.
Sole Proprietorship
Sole proprietorships give one person complete control of a business. People who work for themselves and never register a business are automatically considered sole proprietors. Under this classification, your business and personal assets are one in the same. All debts and legal conflicts land in the sole proprietor's lap — but so do all the profits.
You can get a trade name for a sole proprietorship, but you cannot sell company stocks to raise money.
Best For: Proof of concept stage for low-risk businesses; freelancers
#1 Pro: Founder exercises full control
#1 Con: Personal and business assets one and the same
Limited Partnership
Limited partnerships involve two or more parties. One person bears the role of general partner and assumes unlimited liability. Everyone else enjoys limited liability, but they also have less control over the company.
These types of business entities are outlined in a partnership agreement, and profits are accounted on personal tax returns. The limited partners don't have to pay self-employment taxes, but the general partner must.
Best For: Versatile
#1 Pro: General partner can retain a lot of control while allowing for other owners
#1 Con: Higher costs and liabilities for general partner
Limited Liability Partnership
The role of general partner is absent from limited liability partnerships, aka LLPs. Instead, the structure gives limited liability to every owner as defined by the partnership agreement. Moreover, the owners aren't responsible for each other's actions. This is the most popular setup for Arizona startups.
Best For: Versatile
#1 Pro: Partners shielded from partnership debts
#1 Con: Profits pass to personal income tax
Limited Liability Company
Limited Liability Companies are partnership and corporation hybrids. Ultimately, setting up an LLC separates your business and personal assets. If someone slaps the business with a lawsuit — or bankruptcy becomes a must — your home, car, jewelry, and personal assets won't be at risk.
LLC members are self-employed and must pay Medicare and Social Security taxes. However, they don't pay corporate taxes. Profits and losses are accounted via personal income taxes.
Best For: Small Businesses
#1 Pro: Protects personal assets
#1 Con: Members responsible for all taxes
C Corp
Corporations — also known as C corps — are legal entities, which can be taxed, make profits, and assume liability. Corporations are a separate entity than the founders and offer the strongest personal liability protections.
On the downside, forming corporations costs more than partnerships. Plus, C corps are laden with significant record-keeping, reporting, and operational burdens. On the upside, corporations can sell stocks and shares, which goes a long way in attracting top talent.
Best For: Established businesses, risky endeavors that need to raise a lot of money
#1 Pro: Strong personal liability protection
#1 Con: Loads of reporting requirements
S Corp
S corporations afford limited liability for owners, are seen as a separate entity, and enjoy stock option flexibility. What makes it different than C corps is that profits are passed through as personal income. What many startups find attractive about S corps is that the structure eliminates double-tax jeopardy sometimes inherent in C corp setups. Instead, profits and a percentage of losses can be passed directly to owners' personal income without incurring corporate taxes.
Some states don't recognize S corps, but Arizona does. However, the required paperwork to secure this status is complicated and involves applying with the federal IRS. If you want to explore this route, check in with an Arizona startup lawyer.
Best For: Startups with potential big gains or losses
#1 Pro: Advantageous tax positioning and fewer audits
#1 Con: Potential limitations on owners' fringe benefits
B Corp
Benefit corporations — aka B corps — are for-profit entities that commit to producing public benefits. As the Small Business Administration puts it: B corps are "driven by both mission and profit." Businesses with this distinction typically must submit an annual benefits report demonstrating its public good. In return for their altruism, B corps enjoy certain tax advantages.
Best For: Businesses on do-gooding missions
#1 Pro: Enjoy special tax benefits
#2 Con: Lots of reporting requirements
Close Corporation
Close corporations are very similar to B corps, but they're smaller and retain some aspects of a partnership. Typically, shares can be issued but are barred from public trading, and close corporations don't have a board of directors.
Best For: Small startups
#1 Pro: Company can issue stocks to raise money
#1 Con: Reporting requirements
Nonprofit Corporation
Securing tax-free status isn't easy — and neither is maintaining it. Nonprofit entities are reserved for charities, educational companies, religious outfits, in addition to literary and scientific organizations. Most enjoy tax-exempt status.
To achieve non-profit status, groups must apply both federally and stateside.
Best For: Charities and foundations
#1 Pro: Tax-exempt status
#2 Con: Demanding reporting requirements and profit limitations
Cooperative
Cooperatives — aka co-ops — are insular and operated for the benefit of their owners. For example, condo buildings are often cooperatives because every unit owner has a stake in the building. Community run grocery stores also qualify as cooperatives.
Profits are either reinvested into the shared entity or distributed among owners.
Boards of directors tend to rule over cooperatives. However, members' share holdings don't necessarily reflect their voting power.
Patchwork Entity
Occasionally, it's possible to Frankenstein a corporation out of several business formation structures — like a patchwork. If you're interested in this possibility, seek the help and advice of an Arizona startup lawyer.
Best For: Closed-loop businesses
#1 Pro: Limited reporting requirements and stock-selling opportunities
#1 Con: Things can get a little too insular and opaque
Questions to Ask Yourself When Forming a Company in Arizona
- How many people are involved in the startup?
- How involved is every member of the startup team?
- Do you want to raise significant funds immediately?
- Does your business have a public good component?
- Are you more interested in making money or establishing a public work?
- Do you have assets to protect?
- What is your tax position? Does it make sense to have a corporation pay taxes or pass it through as personal income?
A startup business lawyer in Arizona can analyze the exact situation and determine your best options.
Protect Your Startup's Intellectual Property
Once you've established a business entity, protecting intellectual property should be next on the to-do list.
These days, ideas are tantamount to currency. So is content. Therefore, failing to protect it could lead to catastrophic circumstances that leave you legally impotent.
Things to copyright and trademark when establishing an Arizona startup:
- Original Ideas: Business plan; ideas that create the company's crux; accounting innovations; et cetera
- Content on Website: Original pictures; blog posts; infographics; videos; catch phrases; mottos; et cetera
- Branding Collateral: logos; marks; marketing designs; taglines
Granted, not all items above can be copyrighted or trademarked in every situation. To determine your options, consult with an Arizona startup attorney.
Contracts, Terms & Conditions, and Privacy Policies
Whether you're starting a flower shop, restaurant, dog walking operation, chiropractic office, tech company, ecommerce website, or any other business, you'll need contracts, terms and conditions, and privacy policies. Solid, custom-drafted contracts and agreements can be the difference between a company succeeding and failing.
Types of Contracts
Depending on your business, you may need the following contracts:
- Partnership agreements
- Employee contracts
- Freelance contracts
- Vendor contracts
- Website terms and conditions
- Website privacy policy
- Affiliate marketing agreements
- Product development agreements
- Disclaimers
The Danger of Using Free Contacts
Budget conscious? I get it. Most startups are. But using free contracts may, in the end, cost you a fortune. I've seen it happen. An emerging company swipes an agreement from either a competitor or uses a free one. Problems arise when the agreement includes damaging language that a) leaves the business and founders open to litigation, b) isn't written for the right jurisdiction or c) doesn't account for a certain aspect of your business.
Understand, though, that custom, lawyer-drafted contracts, terms of service, and privacy policies don't have to be expensive. Plenty of law firms in Arizona that work with startups, like mine, work with startups all the time, and we understand their pecuniary constraints. It won't be free, but there's a good chance it may not be as much as you imagine.
Arizona Startup Funding
Money. After the idea, it's one of the fundamental needs of any startup. How will you pay early employees? Heck, yourself? Is there enough to finance a beta round? Do you need office space? What about insurance? Travel? Registration fees? Taxes?
It may sound overwhelming, and to be perfectly straightforward, it is at times. But if you determine a sound funding strategy ahead of time, which works with your tax plan and growth expectations, things tend to go a lot smoother than if you attack it all willy-nilly.
An Arizona startup lawyer can help you map out the best funding path. Should you tap friends and family first? Can your startup attract angel funding? What would you need to change so it would? Are there grants or other programs that may help you get off the ground?
Things to consider when funding an Arizona startup:
- Do you want to be able to raise funds by selling stocks?
- How much equity do the founders want to retain?
- Can you get it done for less? Is it worth it?
Legalities to Discuss with an Arizona Startup Lawyer
Securities Law
Is your startup crypto-related? A traditional fintech outfit? If yes, you need to make sure you've complied with all registration requirements. In the United States, it's illegal to establish a financial businesses company without formal registration. Failure to comply could end your company before it begins because the fines are oppressively high.
Fintech and other crypto startups should take extra care to make sure they're operating on the right side of the law. Especially these days when authorities are out to protect traditional financial institutions.
FTC Rules
Sure, some brands started big enough to forgo marketing — or at least disguise their marketing angle as not having a marketing plan. But for the vast majority of Arizona startups, getting the word out is a must. Marketing is essential. And if you're going to market products — online and off — in the United States, FTC rules apply.
What is the Federal Trade Commission? Colloquially speaking, it's the country's marketing police. A governmental body with autonomous authority, the commission was written into law in the mid 20th century. Commissioners are appointed and serve seven-year terms.
Practically speaking, they establish the rules and guidelines for acceptable advertising, and they sue parties who, they feel, break established norms to the point of deceiving the public. Their main standard is "unfair and deceptive marketing," which is illegalized by the FTC Act.
Privacy Laws
Ten years ago, online privacy was virtually non-existent. But things have changed. Not only did California pass a slew of new online privacy laws, but the European Union instituted the GDPR. Even if you don't live in California or Europe, the chances that you're beholden to the statutes is high. Why? Because they apply to any businesses that market to people in their respective regions. In other words, if people in California can access your website, then you must follow the laws. And no, slapping up a disclaimer that you don't do business with Californians won't work.
E-commerce Laws
If you plan to let people buy things from your website, you'll need to comply with certain standards depending on the product or service. To ensure you're operating on the right side of the law, consult with an Arizona startup lawyer.
Trade Libel
These days, marketing can be a ruthless sport. Businesses regularly attack other companies in the hopes of building themselves up. But what happens if the attacks aren't true? Can you sue?
In a word, yes. In fact, the number of trade libel claims has skyrocketed over the past decade — in large part due to the proliferation of electronic communication.
But remember that opinion is different than a false statement of fact. To win, you must prove a competitor published or broadcast a demonstrably false fact about your startup.
Let's Talk About People
People fuel startups. Some may even fairly argue that the people on your team are more important than the idea. After all, it's common for a startup to shift directions.
Co-Founders
In the beginning, everyone genuinely believes they'll be the kinder, gentler startup — where the founders remain close and conflict-free. But five years down the road, after the grind of startup life and late-night disagreements, things change. Someone wants to cash out, start a life-coaching business in Montana, and go raise a family. Someone else is threatening to sue over murky "gentlemen's agreements" made in the first weeks of formation.
Early Employees
Do you want to hire people right away? Do you want to use freelancers? These two questions have ripple effects that could affect every aspect of your business.
Advisors
Many startups don't have advisors, especially in the early days. That's fine. But if you are a rising company that taps into experienced advisors, you should think about a few things before bringing them into the fold completely.
Investors
Think twice — no, thrice — about investors. Yes, you may need the money. But you also shouldn't get into a financial bed with explosive people. I'm not talking about folks who are different than you or experienced past failures. I'm talking about that gut feeling. Because remember, investors exercise a lot of control over the startup.
Connect with An Arizona Startup Lawyer
My name is Aaron Kelly, and I have worked with Arizona startups for over a decade. Whether you're starting a small online operation, the next Instagram, or even a small mom-and-pop corner store, my practice is ready to make sure you're legally protected and operating on the right side of the law while remaining as profitable as possible.
Get in touch today. We'll have a quick chat about what you need and go from there.
Do you have a legal question? Need a lawyer? Whichever the case, feel free to get in touch anytime.
info@aaronkellylawyer.com