Legal requirements, along with small businesses themselves, change constantly. Annual checkups with an attorney could reveal potential problems before they prove to be very costly for your business.
“There are a lot of small business owners out there who use a customer contract form they had a lawyer review 10 years ago and think they’re good to go,” said Erin Cleary, an associate with Kegler, Brown, Hill & Ritter. “We see owners who try to sell after a long, successful career of building their business, but the transaction proves costly and stressful as a result of neglecting certain legal compliance issues over the years.”
Smart Business spoke with Cleary about why it’s important to meet annually with an attorney and how it benefits your business.
What are examples of problems discovered during checkups?
Some small businesses are organized and taxed as C Corporations for no good reason. Those owners could save significant tax dollars by converting their structure to a pass-through entity. In the current environment of constantly shifting tax laws, it helps to check for such opportunities to improve tax structure or capitalize on other tax credits or incentives. These changes lead to real money in your pocket.
Another issue that can arise during a sale transaction concerns commercial contracts with customers or vendors. Contracts might include prohibitions on assignment, unusual indemnification clauses or warranty provisions that might be disadvantageous to the company. It can pose significant liability to hand out a template contract that’s outdated, for example, one that doesn’t take into account the unique risks and liabilities imposed by e-commerce and social media. Updating contracts that are regularly signed cuts down on future liabilities, especially in the context of a sale transaction where a buyer will inevitably ask the seller/owner to stay ‘on the hook’ for the contractual liabilities the business has accumulated.
One of the most serious liabilities can be the failure to properly pay, collect and report taxes, particularly sales taxes and payroll taxes. Generally, there is no statute of limitations for tax evasion, fraud or the failure to file a return, so those liabilities exist forever. In addition, it’s not possible to pass this liability on to the buyer of a business — a tax authority can always go after either the ongoing business or the original owner who failed to comply. In sale transactions with this kind of liability, the seller always ends up fully indemnifying the buyer for any future penalties, audits or investigations that might occur after closing the transaction.
Are there businesses for which legal checkups are particularly vital?
It’s probably more important among less regulated industries. Businesses that are highly regulated have closer relationships with attorneys and are more attuned to legal compliance. But legal oversight is not just about compliance. It’s also about best practices, like making sure employees sign contracts to protect the business’s intellectual property.
Checkups are worthwhile if you’re anticipating an exit from the business, whether it’s a sale, taking on a major investor, going public or transitioning the business to a family member. Even a sale to someone with whom you have a close relationship might undergo the same scrutiny as if you had a completely unrelated buyer. Many businesses, particularly professional practices, do not plan for succession. Periodic conversations with counsel might encourage you to take the time to think this through. If a professional practitioner passes away, a valuable business could quickly become worthless. Having a succession plan might mean the owner’s estate receives compensation for the business when it otherwise would not.
Some owners might like to hire different lawyers for specific needs. These owners should be careful to make sure that at least one of their lawyers is taking time to look at the overall picture to make sure nothing is falling through the cracks.
Unlike accountants, whom you’re naturally going to see annually to file taxes, there is no periodic event that requires you to update your attorney about your business. But keeping up with best practices would nevertheless make an ultimate transaction less expensive and stressful, and reduce post-closing liability.
Erin Cleary is an associate at Kegler, Brown, Hill & Ritter. Reach her at (614) 462-5420 or email@example.com.
Event: Change Orders, Claims & Disputes: “Star Wars” in the Construction Industry will take place on March 27. Visit keglerbrown.com for more information.
Insights Legal Affairs is brought to you by Kegler, Brown, Hill & Ritter
There are many ways that small and medium-sized businesses can find themselves facing financial difficulties that lead to trouble in their commercial lending relationship. When this happens, many times business owners become paralyzed, shutting down and failing to communicate with their lender. While that is understandable, it is the wrong thing to do, says David M. Hunter, chair of the Real Estate Practice Group for Brouse McDowell.
“When a business anticipates that it is entering a period of financial challenge, one of the first things it should do is get competent legal counsel,” says Hunter.
Often, business owners only do this as a last resort. However, retaining knowledgeable counsel early on allows you to obtain practical pointers when there is often greater flexibility to negotiate an agreeable outcome, he says.
“Once a lawsuit is pending, things become much more difficult to negotiate, even with a lawyer involved,” he says.
Smart Business spoke with Hunter about how to work with your bank to preserve good relations during difficult financial times.
When a company realizes it may be headed for financial difficulties, what should it do first?
Small and medium-sized businesses typically have a large file that contains the underlying governing documentation when the business took out the credit facility. In the event that your business is slipping into financial turbulence, locate that file and review the terms and conditions of your loan.
However, most businesspeople are overwhelmed by the paperwork. This is a good reason to get counsel involved early. Your counsel will determine the secured or unsecured position of your lender. If your loan is secured, what are the assets that secure it and what are the current valuations of those assets? Is the loan in default? If not, what is the time period you project you could make the required payments and otherwise adhere to the terms of the loan agreement?
How can an attorney help?
A good attorney either has knowledge to assist a borrower facing a potential loan default or is with a firm with others who have knowledge of the federal bankruptcy law protections or other approaches that would aid a borrower facing an approaching problem.
Once you have secured counsel and discussed the issues, the next step is to contact your lender. Bankers appreciate knowing that a borrower is alert to the problem and wants to collaborate with the bank to address it or explore what remedial options are available.
Business owners often believe that banks want to seize a borrower’s property or shut down a borrower’s business. No bank really wants to do that. If it is reasonably achievable, banks want to rehabilitate nonperforming loans and transform them back into performing loans that pay as agreed. They want to lend money to borrowers that use loan proceeds effectively and to create an improved economic performance for the borrower, which will allow the borrower to repay the loan.
Are there risks in alerting a bank of a potential missed payment?
Some businesses, regardless of efforts taken to head off financial difficulties, can face a situation in which the next loan payment might be missed. No bank will think unkindly of a call from a borrower saying an upcoming payment might not be paid timely. Some borrowers might worry that if a bank finds out about a potential missed payment, an awful consequence will be triggered. But if that is the impulsive reaction you receive from the bank, you are likely dealing with the wrong bank.
However, after 90 days of delinquency, the loan will likely go into a nonaccrual status — a consequence which immediately and negatively impacts the bank’s earnings. This is a more serious situation. If you alert your bank early enough, it will likely work with you to find a solution. But it gets more difficult to take these steps the longer a borrower waits.
At what point does this become a legal issue?
There are legal issues every step of the way. But these become more acute when the evolving facts empower a lender to take steps that can disrupt a borrower’s business. Many loans contain a cognovit provision, a tool a bank can use if a loan is in default. This authorizes a bank to obtain an expedited judgment against a borrower. This expedited judgment can quickly empower the bank to attach the bank accounts or levy upon the assets of its debtor.
It’s important to communicate with your bank before such a provision is implemented in an effort to find a way to augment the terms and conditions of the loan to give the borrower a window of opportunity to make payments. This often leads to the creation of a forbearance agreement — a mutually agreeable written understanding between the bank and its borrower as to how the parties will treat this troubled loan. Forbearance agreements customarily provide that as long as the borrower adheres to the agreement, the bank will refrain from pursuing certain remedies, such as obtaining or enforcing a cognovit judgment.
Preservation of value should be paramount for both the borrower and the bank. Under potential default circumstances, borrowers and banks can do things that can negatively impact a business’s value, and banks know that. If a bank acts aggressively to prompt a forced sale of assets, often the value realized when the assets are sold will be reduced.
Before a borrower gets to that point, the borrower would be well advised to work with a lawyer and devise a strategy to deal with the situation. Often, the owner and lawyer can come up with a plan of payment and present it to the lender. If the plan is reasonable, many times the lender will be receptive.
What are some other potential resolutions?
There is often relief available in bankruptcy. But its practical effectiveness hinges on the size of the company, as the pursuit of such a remedy can often be cost prohibitive. Chapter 11 cases, for example, can come at a high cost and be labor intensive. But a Chapter 11 filing can make sense in certain circumstances.
David M. Hunter is chair of the Real Estate Practice Group for Brouse McDowell. Reach him at (330) 535-5711, ext. 262, or firstname.lastname@example.org.
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Business owners might avoid bringing an attorney to the table when negotiating a lease, but the advantages of having an advocate in their corner far outweigh the cost.
“In my experience, when you see a lease where an attorney was not involved on behalf of the tenant, you get a lopsided, landlord-favoring lease,” says Jesshill Love, a partner with Ropers Majeski Kohn & Bentley PC. “The attorney’s job is to think ahead to what happens if something goes wrong to make sure the tenant will be treated fairly.”
Smart Business spoke to Love about the pitfalls a tenant can avoid by partnering with an attorney before signing a commercial lease.
Why should an attorney be present in the negotiations?
Any smart businessman or woman is going to employ both an attorney and tenant broker, because they have different roles. A broker is going to be more focused on lease rates, market factors, square footage allocations and tenant improvement allowances. An attorney is going to focus on protections for the tenant from the point of view of the ‘legalese’ of the lease. This can include indemnification, attorney fees, arbitration and mediation issues. Sometimes an attorney has to interpret multiple provisions together in order to get to the conclusion that the lease actually pushes more of the obligations and expenses onto the tenant than it should. The role of the tenant’s attorney is to make sure that the tenant is well represented and receives the benefit of the bargain in the negotiation process.
What is the role of the letter of intent?
This is often where tenants misstep: they start talking to the landlord about deal points or even move to a draft lease before considering the letter of intent (LOI). The LOI is what will set the tone for future negotiations, and if you don’t drive a hard bargain at the LOI stage, then you’re leaving money on the table when the lease is signed. Once the LOI is established, it’s going to serve as a framework for the actual drafting of the lease itself.
There’s a tremendous amount of standard language thrown into a lease, such as forum selection clauses, attorney fee provisions and indemnification and insurance provisions. All of this is fairly standardized in the industry, but the framework of the main deal points from the LOI is what’s going to set the tone for the lease when it comes to flexible items like tenant improvements, common area maintenance (CAM) expenses and operating expenses, and how they’re defined.
What are some provisions a tenant should push for in a lease?
These can change every couple of years as the market changes. Also, as new case law is handed down, attorneys on both sides of the negotiation will angle to push off certain costs or obligations on the opposing party. The big ticket items now are tenant improvements, free rent, environmental concerns, termination provisions and risk of loss provisions.
It’s still a tenant’s market, so negotiating for free rent up front is something you want to try to do, if possible. Also, try to negotiate a cap for any structural improvements with an absolution period and landlord indemnification of the tenant for any pre-existing structural or environmental problems. Mediation and arbitration as well as attorneys’ fees provisions are additional issues to look out for.
Landlords on triple-net leases will try to define everything as a tenant responsibility: roof, plumbing, sewer line, heating, ventilation and air conditioning (HVAC) and electrical problems. A tenant attorney should push back in an effort to make a major structural problem involving the building envelope the responsibility of the landlord.
Another thing you’ll definitely want to have is a clear definition of default, particularly if you have a letter of credit. You don’t want the landlord to be able to draw down on the letter of credit for something that’s an immaterial default under the lease. Also, when lease rates start to increase, landlords are going to be looking for any type of breach they can in order to cancel the tenant’s lease so they can lease to somebody else at a higher rate. Landlords will attempt to define default broadly to effectuate this purpose. We have seen multiple over-reaching default definitions, such as violation of local zoning and use laws and operating hour violations. The attorney’s job is to make sure that a breach of a lease for which the landlord can actually terminate is material; this should be limited to non-payment.
What should tenants avoid in a lease?
First, tenants should avoid personal guarantees when possible, as well as excessive security deposits. Relocation provisions should also be avoided or, at a minimum, limited. Relocation provisions are common in leases with multiple commercial tenant or office spaces. They allow the landlord to move a tenant if the landlord wants to incorporate the tenant’s space with adjoining spaces for a prospective tenant. The tenant has no choice but to move upon notification from the landlord. Relocation could result in a tenant being buried in the back of the office building, or the franchise in the shopping mall could end up tucked away in a space with little foot traffic. This is obviously not what the tenant initially negotiated for when the lease was signed. The tenant must negotiate relocation preferences and safeguards prior to signing that lease.
Further, some lease agreements require a tenant to continue to pay rent even if the space is rendered unusable. For example, if there’s a fire in the building, and the tenant cannot continue to operate the business, the tenant is still required to pay rent. Although the tenant’s lost business can be covered by business interruption insurance, it is not in the tenant’s best interests to have an open-ended time period for the landlord’s repair of the premises. Most large commercial leases are drafted that way — even if it’s not the tenant’s fault, the tenant is not allowed to terminate the lease pending the landlord’s repair of the premises. Litigation surrounding these matters between landlords and tenants can be company killers. There have to be provisions in the lease that say, if this can’t be fixed within a reasonable time period, the tenant gets to walk.
Jesshill E. Love is a partner with Ropers Majeski Kohn & Bentley PC. Contact him at (650) 780-1611 or email@example.com.
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When you have a legal issue, you call your attorney. But are you taking advantage of the other ways in which your lawyer can help your business?
“Your lawyer should be not only your lawyer but a counselor to your business,” says Jon D. Cantor, member, Dykema Gossett PLLC. “Your lawyer should know your business, know your industry and know the ups and downs of your industry. Only by doing so can that person help you make proper decisions when it comes to your business.”
Smart Business spoke with Cantor about how to make the most of your attorney’s knowledge and skills when making decisions about your company.
How can your attorney be an asset to your business?
Whether you are involved in transactional law or involved in litigation, the one thing that your lawyer has to be cognizant of is that these are business decisions.
There are times when you have to weigh the business interest against the legal interests. For example, a company may have a very strong business interest in going forward on a deal, but its legal interest is questionable. Or, in the incidence of a lawsuit, your legal interest may be substantial, but it may not be in your best business interest to go ahead and litigate.
There a number of factors that your lawyer needs to be aware of when counseling you on whether or not to enter into an agreement or commence litigation.
How should business leaders approach their relationship with their lawyer?
You don’t want to look at your lawyer simply as a lawyer. You want that person to be someone you can approach to ask questions about certain business decisions you are making. A lawyer can look at a potential decision with detachment. A good lawyer doesn’t become emotionally charged; he or she will be very rational and won’t allow emotions to enter into the decision-making process with the client.
A lot of business leaders, in both small and large companies, may just look to their lawyer to help them on the legal aspect of a decision, but your lawyer can help you with both the legal aspects and the business decisions in everything that you do. Whether it is litigation or transactional, the business aspect of that decision should always be considered.
On a major corporation level, as well as with small business people, there is far more to get out of that relationship than most people realize.
What should a company look for when finding the right lawyer for its needs?
You need to be asking the right questions. Sit down face to face with lawyers you’re thinking about engaging and find out where they have done work, what kind of businesses they have dealt with and what kinds of cases they have handled. Ask for referrals, and follow through with them, but you also have to assume that any contacts you are given for referrals are going to be positive.
You really need to get to know the person because that personal relationship with your lawyer is everything. There are a number of really good lawyers in this country but one of the major things that separates one from another is that personal relationship that they are able to establish with clients.
Accessibility is another critical element. A good lawyer will give you his or her office number, cell phone number and e-mail address, and will carry a smart phone for instant access. Businesses should not only be able to contact their lawyer at any time they want to, but should also be encouraged by the attorney to do so.
When should a business contact its lawyer?
Businesses should be encouraged to call their lawyer before they sign on the dotted line, or before they take any action that could have some ramifications on the company, and talk through the potential action.
Some clients are reluctant to make contact because they are concerned about being billed by the lawyer for every minute spent on the phone or every minute spent answering e-mail. But depending on the length of the call, the lawyer will not necessarily charge every time you call.
And if it’s a longer call and there is a charge, it will be easier for you if you call beforehand — and will be less money if you call before making a decision and pay for the advice up front — than if you call after you’ve made a poor decision and are saying to your lawyer, ‘I made a mistake. Can you get me out of it?’
The best business tool between a CEO and the company’s lawyer is the phone. Do not hesitate to pick up the phone and call or to send a quick e-mail. It’s a matter of personal service, and the lawyer should be communicating to you that no matter is too small to handle.
How important is the relationship between a business and its lawyer?
You should look at your lawyer as part of the family, as part of the company. Look at that person not as someone who is external to the company, but who is an appendage to the company.
You need to really feel comfortable sharing information with your attorney in order to take maximum advantage of that relationship and of the expertise that person has to offer. It takes time to be able to build that type of trust and confidence, but you need to do it.
Jon D. Cantor is a member at Dykema Gossett PLLC. Reach him at (213) 457-1795 or firstname.lastname@example.org.