By James E. Gallagher
Opening and operating a small business can be a daunting challenge, even without the specter of a lawsuit. However, the reality is that most business owners will be involved in at least one lawsuit during their career, or during the lifetime of the business. Therefore, it is especially critical for small business owners, who often face more damaging financial consequences than large businesses, to understand the legal landscape of facing a lawsuit. While no business owner can be prepared for every situation, a small amount of up-front planning can go a long way. Taking these necessary precautions and courses of action will help you prepare for and, hopefully, succeed in resolving potential disputes.
Know Your Insurance Options
It is important to be aware of insurance options that can help protect you and your business if a lawsuit occurs. There are several insurance products in the marketplace, such as Employment Practices Liability Insurance (EPLI), Directors and Officers Insurance (D&O), Worker’s Compensation Policies, Environmental Insurance, and even standard Commercial General Liability (CGL) policies. Most policies not only provide the reimbursement of costs that the insured business owner must pay to resolve a lawsuit, but will also pay for the insured’s defense costs. Litigation costs can run tens of thousands of dollars in relatively simple cases and, in more complex and multi-party cases, litigation costs become overwhelming. Thus, having a good insurance policy in place can be an invaluable asset in financially protecting your small business.
Develop a Relationship With an Attorney
Successful business people surround themselves with trusted advisors, and a lawyer is an advisor that every small business owner needs. While it is not necessary to have an attorney on retainer, it is advisable to have a relationship with one you trust, and to whom you can turn if a problem arises. The attorney need not be a full-time litigator, but should be someone who can help resolve the situation or assist in finding a good litigator for your needs. Identifying this trusted advisor, or at least knowing they are reachable, can help alleviate some of the stress that occurs when contentious situations arise.
Understand Your Personal Liability
Every business owner should understand the potential personal liability that may come with litigation. The “corporate veil,” or the separation between a business owner and his/her business, will often protect the owner’s personal property. In contrast, if you own a small business by yourself or with your spouse, there may be situations where your personal income and savings could be put at risk.
In such instances, the court performs a complicated analysis to determine whether you are respecting “corporate form.” For example – whether you keep separate bank accounts, file separate tax returns, maintain proper payroll records, keep proper inventory records, etc., or whether the corporation is actually just the owner, with no legal separation between the two. In these, “piercing the corporate veil cases,” the courts would allow the opposing party to hold the business owner personally liable. In most states, a business owner may also be personally liable for wrongful acts in which they participate (for example, if the owner knowingly makes a false statement to the opposing party). There are also several labor, wage, and pay laws that hold business owners personally liable for failing to pay proper or prevailing wages to employees.
I’ve Been Sued: Now What?
Small business owners should know and understand the immediate steps that must be taken when litigation begins. The first step is to immediately contact your attorney, explain the situation, and seek their counsel on whether they can help you. If not, ask for a referral to someone who can.
Internally, you should implement a “litigation hold.” This means the business should identify the people and locations that are likely to have documents and information (existing both in hardcopy or electronic format) related to the claims and defenses in the lawsuit, and secure those documents. If the company has certain automated processes by which documents are deleted or destroyed, those processes should be suspended. In most states, a party must identify and preserve information the moment litigation is reasonably anticipated – which typically happens before a party is served with the lawsuit. While this may appear onerous, especially for a small business, this is an important obligation. If it is later discovered that any party involved in litigation allowed a document in their possession to be deleted, thrown away, or simply lost, a court may, and often does, impose penalties on these parties. These sanctions can range in intensity, based on how critical the potential evidence is, and can be very harmful to the business.
Business owners should understand that the threat of being sued is a risk that goes along with running a company. While the financial hits of litigation can be far more damaging to small businesses than to large ones, there are steps that every business owner can take to protect the company from the risks of a lawsuit. Having a solid plan in place may not only provide peace of mind, it may also save your business.
James E. Gallagher practices in the Business Law, Employment, and Litigation areas at Davis, Malm & D’Agostine, P.C. Jim is a trial lawyer with experience in a range of areas, including fiduciary, securities, commercial and class action, probate, and employment litigation in state and federal court. He also advises numerous residential and commercial condominium associations. He can be reached at firstname.lastname@example.org.