Plain-English Legal Guide
By: Quenda Behler Story
What Do You Need to Start a Construction Business?
The construction industry is filled with small
builders, remodelers, and subcontractors — businesses that can’t
easily afford $100 to $200 an hour to hire a lawyer to help them
start up or to handle their day-to-day legal problems. But in modern
America, legal problems are like snakes in the swamp — you might not
see them, but you know they’re there.
This book is intended to help you get through
the swamp without having to hire a $100-an-hour guide. It’s written
to help small builders, subcontractors, and remodelers recognize and
manage the legal tasks, which, with a reasonable amount of time and
thought, they can do for themselves. Some of those legal tasks
aren’t as difficult as you might think. In many cases, they are
tasks a lawyer would simply hand off to his secretary. However, it
won’t be the secretary’s hourly rate you’ll be paying. If you can
read and understand the material for a contractor’s licensing test,
you can certainly read and understand this book — and you can
probably do all the tasks the lawyer’s secretary can do.
Another, equally-important purpose of this
book is as a “heads-up” for those situations where you do
need a lawyer — or some other kind of professional, like an
accountant, an insurance specialist, or a financial advisor. When
you need a professional, you need to get one before it’s too
late. It’s a lot easier to pull someone out of a swamp when he’s
only ankle-deep. When he’s in up to his neck, it’s a major job, if
not impossible. Wait too long and sometimes all that a professional
can do for you is collect a big fee.
Although, by using the Contents and the Index,
you can find answers to your questions in this book without reading
the entire book, I hope you do read it all. The book will give you a
lot of general information that should help you stay out of lawyers’
offices as much as possible — not just by telling you what you can
do yourself, but by telling you where the snakes in the swamp are
hiding. Forewarned is forearmed. If it’s some-thing that can
happen to you, it’s probably already happened to someone else. If
you know how it happened to them, you can make sure you don’t go
there. Why learn the expensive way?
And when a particular problem comes up in the
course of your business, before you call your lawyer, check first to
see if it’s covered in this book. I’ve tried to cover most areas of
trouble. There’s a good chance I’ve covered that one. If so, maybe
I’ve saved you a lawyer’s bill!
And now on to the subject of this chapter.
You want to start up your own construction
business. You want to be the one who calls the shots and who makes
the money. But even though you might not choose it, you’re in a
partnership. Your partner is the government. It doesn’t pound nails
for you, it doesn’t sell jobs for you, it doesn’t do any of the
worrying or suffer headaches for you — but if you ever make any
money, the government will be right there to share with you.
Sometimes you can get a government agency to help you out, and we’ll
cover that later in the book. But at startup time, you have to
consider and follow their rules.
There are many requirements for a startup
contracting business, and they come from several different levels of
government. In this chapter we’ll cover the most important ones,
whether you’re starting out alone at your kitchen table or setting
up a corporation.
Can You Work Out of Your Home?
There’s one major advantage small construction
companies have over the larger companies: It’s easier for a smaller
company to keep its over-head costs low by not doing things like
renting office space and hiring a lot of office staff. Many small
construction businesses start out in a work-shop behind the garage,
in the garage itself, in an extra bedroom, or off the kitchen table.
By using modern technology, a small
construction company can do without all kinds of office help like
receptionists, accounting clerks, and even salespeople and
secretaries. Instead, you can use a telephone answering machine with
voice mail, a pager, and a computer with spread-sheets and word
Possible Zoning Problems
One possible problem with working out of your
home is your local zoning code. Some communities restrict what kind
of business (or how large a business) can be operated in a home or
in a residential area. Remember that the zoning definition of “home”
includes the barn and the garage and any other kind of outbuilding.
It’s how the property is zoned, not whether or
not anybody is actually living in it, that makes the difference. You
could have a vacant lot, but if that lot is zoned as residential,
it’s intended to be used as somebody’s home. So whether you could
put a trailer or a tool crib on that lot and use it as your
permanent office would depend on what the local zoning laws say
about what can be done in a home besides living in it.
Most zoning codes do allow some in-home
businesses, but restrict the kind of business. The goal of these
restrictions is to avoid the kind of traffic coming into residential
neighborhoods that businesses, such as retail services or a business
with several employees, would generate. The zoning laws especially
want to keep businesses out of residential neighborhoods that use
heavy, noisy equipment — such as construction businesses — that
would disturb people in their homes.
The zoning laws also often restrict the kind
of advertising a home business can do to indicate its presence. The
idea is that commercial advertising in a residential area lowers
property values. That’s why zoning laws typically either limit the
size of a business sign or don’t allow one at all.
So before you set up shop in your home, you
should check with your local municipality to see if it’s lawful to
run your kind of business there. You should also plan on being
discreet. Many communities don’t enforce their rules until the
neighbors complain. If all you’re doing in your
business-in-your-home office is making and receiving phone calls and
sending and receiving mail, chances are there won’t be complaints.
But if you have lumber delivery trucks rolling in and a steady flow
of clients parking on the street, chances are you’ll be hearing from
What About Deducting the Home Office?
Until 1999, the IRS had a nasty little
surprise for contractors who worked out of their home. The IRS said
that if the office located in your home wasn’t your principal place
of business, you couldn’t deduct it as a home office. What, you ask,
is your principal place of business if you’re in the construction
industry? The job site, the IRS answered.
One of the things that made this principal
place of business rule so illogical was that if you went out and
rented an office, you could deduct it even though you were doing
most of your business at job sites, not at your office.
Under pressure from small businesses, the IRS
changed its rule, and, starting in 1999, the principal place of
business rule was changed to allow a home office deduction if the
business’s principal administrative and management tasks took place
Even under the new rules, you need a place
dedicated to the business before you can deduct a home office. That
has to be absolutely the only thing you do there. If you work
off your kitchen table, that table will never qualify for a
deduction. Also, you can’t use your home office to create a business
loss. In other words, you can only write off home office expenses
If you’re a sole proprietor and you want to
write off a home office, you must fill out and file a Form 8829
along with your Schedule C. It’s a complicated form. If you use it,
first ask for IRS Publication 586: Business Use of Your Home.
What Do You Need From the IRS?
There are as many horror stories about dealing
with the IRS as there are about going to the dentist. I think that’s
a shame, for two reasons. First, those stories can scare people out
of doing some really easy things that they need to do, because they
think they will be too complicated to handle on their own. Second,
when people get into trouble, they think they’re doomed. They often
become paralyzed with fear and don’t deal with the situation. Now,
sure, I know some people have had some genuinely night-marish
experiences with the IRS, but I think those are statistically rare.
I also think that, in some of these horror stories, the person
telling the story doesn’t always include every single fact.
Sometimes the situation wasn’t quite as one-sided as their story
My experience with the IRS (knock on wood) is
that mostly the agents want to help you work out your problem.
There’s a very useful publication, available
free from the IRS, that you should get right away. It’s Publication
334: Tax Guide for Small Businesses. It’s available at IRS
offices, or they’ll mail one to you if you ask for it. You can also
phone them at 1-800-829-3676 to ask for the publication.
What About a Taxpayer Identification
The first thing you need from the IRS is a
number, although you may already have it. You’ll have lots of forms
to file with the IRS — and the IRS keeps track of those forms with
numbers, not names, so it’s important to get the right number to put
on your tax forms. You’ll need some kind of taxpayer identification
number — what they call a TIN — to put on your forms so those
forms don’t get lost. The phrase taxpayer identification number
includes several different kinds of numbers. You may already have
all the taxpayer identification you need: your social security
number. Depending on your situation, you may not need anything else.
Here’s how to tell if you can use your social security number, or if
you need to apply for a TIN.
For a Sole Proprietorship
If you’re not a partnership or a corporation,
and if you have no employees, you can simply write your social
security number on those lines on your 1040 form, Schedule C and on
your quarterly self-employment income reports that ask for your EIN
(Employer Identification Number).
For a Partnership
Partnerships don’t have social security
numbers, so your partnership will need the kind of taxpayer
identification number called an EIN (Employer Identification
Number). Your partnership TIN is an EIN. Got that? All joking aside,
you’ll need an EIN for your partnership even if you don’t have any
Without an EIN, all the income the partnership
earned would be credited to whichever partner used his or her social
security number on the partnership reporting forms. That partner
could owe a lot of extra tax to the IRS, while the other partners
get a free ride!
To get an EIN, fill out an IRS Form SS-4 and
mail it to the IRS. The IRS will assign a number to the partnership
and mail it back.
For a Corporation
Corporations must have an EIN even if they
don’t have employees. Fill out the SS-4 form, send it to the IRS,
and the IRS will assign an EIN number to your corporation and mail
it to you. This number will be only for the corporation, not for the
shareholders — even if there’s only one share-holder.
For Any Business That Has Employees
If your business has employees, it’ll need an
EIN even if the business is a sole proprietorship. To be sure your
reports and payments get credited at the right places, you’ll also
need your employees’ social security numbers. You get those by
asking your employees to fill out W-4 forms for you. The IRS will
mail all of these forms to you if you just call and ask. Their phone
number is 800-829-3676.
There’s more information on these topics in
Chapters 5 and 6. Also, the IRS publishes a free publication, which
is surprisingly clear and readable, called Circular E, Employer’s
Tax Guide. When the IRS mails you your EIN, it sends along a
copy of Circular E.
What Do You Need From the State?
The state regulates your business names, your
license requirements and may impose some additional tax
requirements. Your state may or may not have an income tax. It may
charge sales tax on some of your installation activity. Contact your
state treasury and find out what you have to do to satisfy your
state tax requirements.
You Probably Need a License
Most states don’t allow anyone without a
contractor’s license to do business in the construction trade. The
penalty for doing business without a license is usually that any
contractor who’s not properly licensed can’t sue to collect payment
for completed work. So if you’re unlicensed and your customer stiffs
you, there’s not much you can do about it. The customer may get the
work for nothing. More about this later in the chapter.
The licensing requirement is meant to protect
consumers. The idea is that by requiring a license, the state can
set some minimum standards. That’s not a bad idea in an industry
where anyone who owns a hammer thinks he’s a carpenter. By
preventing an unlicensed contractor from collecting for his work,
the state motivates contractors to get their licenses — and does it
without spending a lot of money on investigators and enforcement.
There’s another way the licensing laws protect
consumers. If the customers of a licensed contractor believe that
the contractor has cheated them, they can make a complaint against
that contractor’s license. If the state then determines that it’s a
valid complaint, the state can fine the contractor, or even cancel
that contractor’s license. Generally speaking, the state won’t
usually pull a contractor’s license just for complaints about bad
workmanship, unless the contractor’s work has actually caused a
dangerous situation. In circumstances involving bad workmanship, the
state usually just leaves the customer to his or her warranty
But usually the state does act against
the contractor’s license in cases where the contractor has accepted
money, then either didn’t start the work, or didn’t finish it.
Taking away a license is an administrative
procedure. A contractor whose license is threatened can, and
probably should, seek the help of a lawyer.
A contractor’s license can also be revoked for
failure to pay the mandatory annual licensing fee. That’s usually
How to Get a License
State licensing requirements vary widely. Not
every state requires a license for every construction activity. Some
states issue a one-size-fits-all sort of license, which lets the
person with the license do everything. Other states break down their
licenses into specialties such as general contractor, and specific
trades, such as electrician, plumber, and so forth. The license may
also act to regulate activities such as advertising, selling, and
some aspects of the contracts between customers and contractors.
Craftsman Book Company, the publisher of this book, has a Web site
called Contractors-License.org that details the licensing
requirements in each state. It has frequently-updated information on
states’ requirements, and links to each state’s contractor’s license
Web site, where you can find out if a contractor has a license and
if it’s current, and learn other useful information.
Before issuing a license, most states require
applicants to demonstrate that they have some experience in
construction, and that they’re credit-worthy. Some states make the
applicant pass a test. And some, my home state of Michigan, for
example, require all three: experience, creditworthiness, and an
Who Must Be Licensed?
In Michigan, anyone who is self-employed and
works in the construction trade has to have an appropriate license.
Michigan has different levels of construction licenses. A general
contractor’s license is available for builders or remodelers.
There’s a residential maintenance and alteration contractor’s
license (you have to pass a trade test for your particular trade),
and separate licenses for electrical, plumbing and mechanical
con-tractors. Also, anyone selling remodeling or building projects
has to be licensed as a salesperson and work under a builder or
contractor who is also licensed.
But there are some exceptions to the
requirement for licenses. In some states, a construction worker
doesn’t need a license to perform work for less than $600
compensation. There are some other exceptions, too. Be sure to check
in your state before you start working as a contractor.
Some states, Kansas for example, don’t license
contractors at all. But cities or counties in those states might. So
if you find you’re in a state that doesn’t require a license, don’t
assume that you’re off the hook and can start building. You might be
in for an unpleasant and expensive surprise!
Homeowners — A homeowner
or a landlord doesn’t need a license to build anything on their own
property (although they’ll probably need a building permit).
Developers — In a state
that requires builders to be licensed, any land developer,
subdivider, or real estate agent who owns the property and intends
to sell it, must have a construction license or use a licensed
contractor in order to build on the property. They don’t get the
homeowner’s exemption because they don’t intend to make their home
on the property — they’re holding that property for resale.
Subcontractors — Most
states require that anyone doing business in the construction trade
get a license. “Doing business” includes subcontracting for other
Partnerships — Different
states have different rules about partnerships. Some states allow a
partnership to use the license of one of the partners. However, the
partner who has obtained the license must be a managing partner, or
the partnership cannot legally use his or her license.
States such as Michigan require a partnership
to have a license in the partnership’s name, even though one or more
of the partners is already individually licensed. When the
partnership applies for the license, one of the partners (it must be
a managing partner), takes the test. The license is then issued in
the name of the partnership and it becomes a partnership asset.
Joint ventures — A joint
venture is a kind of partnership, so most states require a joint
venture to do whatever partnerships are required to do. If the state
requires a partnership to obtain its own license, a joint venture
must also obtain its own contractor’s license. That’s true even if
the joint venture has only been set up for a limited project such as
building a single mall, one building, or an apartment building. The
requirement applies even if the joint venture is set up by two or
more partnerships that have their own licenses.
Corporations — Some
states won’t license corporations. They only license individuals. So
in those states, an individual in the corporation must get a license
in the company name. The person who takes the tests and qualifies
for the license on behalf of the corporation must hold a managing
position in that corporation.
A few states won’t let construction companies
incorporate at all. The states that do allow construction companies
to incorporate generally require those corporations to get their own
license, even though one or more of the individual shareholders in
the corporation may already hold a license.
Are There Penalties for Not Having a
There are criminal penalties for engaging in
the construction business without a license. It’s a misdemeanor
that’s punishable by a fine or imprisonment — or both. However, the
public prosecutor is the one who decides whether or not to enforce
criminal penalties. Usually the public prosecutor isn’t interested
in putting unlicensed contractors in prison, unless they’ve
been cheating their customers.
The real penalty for contracting without a
license is that a contractor without the proper license can’t sue a
customer. That means he can’t sue for nonpayment or enforce a
construction lien, because a contractor has to go to court to
foreclose on a lien. For more information about construction liens,
see Chapter 7.
The license requirement gives consumers a
powerful way of protecting themselves from the dishonest or
unskilled contractors (who tend to be the ones without a license).
Consumers dealing with an unlicensed contractor may not have to pay
for the work the unlicensed contractor did for them. They may even
be able to get any money back that they’ve already paid to the
unlicensed contractor. In some states, this is true even if the
customer actually knew the contractor was unlicensed and
lured him into doing the work, knowing that the contractor wouldn’t
be able to collect.
This can be hard on contractors who weren’t
acting in bad faith. There are cases where the contractor was
unlicensed only because of a technicality or a failure to promptly
pay a license renewal fee, but still wasn’t allowed to sue to
collect payment. It sounds harsh, but the courts rigorously enforce
the rule against letting an unlicensed contractor sue a customer.
After all, it’s an effective way to enforce the state’s licensing
laws. It gives the contractor a powerful motive to make the effort
to get that license.
Exceptions to the rule —
Some states will allow a contractor some recovery (on an unjust
enrichment, or quantum meruit theory) if the contractor can
demonstrate that the failure to have a license was only a technical
error. For example, unlicensed contractors have been allowed to sue
their customers for payment in the following cases based on these
- Two licensed contractors had set up a joint
venture partnership. They were both properly licensed, but didn’t
realize that their joint venture was supposed to have its own
- Another contractor had a license for the
bulk of the time that the work was being done, but had failed to
renew it promptly. He was only unlicensed for a brief period of
However, no unlicensed contractor should count
on this relief. There’s at least one case on record where the court
refused to let a contractor collect from a customer where the
contractor worked on the project for several months and was
unlicensed for only ten days because he had failed to make his
annual license payment.
This is an area in which the law varies from
state to state. If you’re involved in this kind of problem, you
should get help from a lawyer who knows exactly what your local laws
are. Your lawyer may tell you that you’re in a state that closes the
courthouse doors to an unlicensed con-tractor — period. You might as
well not bother trying. Just write it off to the high cost of
experience. However, you may be in one of those states where, in
certain situations, unlicensed contractors can sue for unjust
enrichment, or quantum meruit.
Impact on the property owner —
The penalty for not having a license doesn’t have any impact on the
property owner. The law is only intended as a hammer to force
unlicensed contractors to get licenses. It’s not intended to punish
anybody else. Even though the courts are closed to an unlicensed
contractor, a property owner could sue his unlicensed contractor for
breach of warranty and even for breach of contract.
Let’s look at an imaginary example: Harry
Homeowner hired Contractor Cal to build a room addition. The
contract price was $15,000. When Contractor Cal was two-thirds done
(and Harry had paid him $10,000), Harry learned that Cal had no
license. He immediately told Cal to stop work, and hired a licensed
contractor to finish the job. This second contractor charged Harry
$9,000 for the balance of the job — $4,000 more than he would have
had to pay Cal.
Even though it was he who stopped Cal from
finishing, Harry can now sue Cal for breach of contract. Cal could
be made to reimburse Harry the $4,000 difference. In a few states,
Harry could even get back the $10,000 he’s already paid Cal as well.
A homeowner could also sue an unlicensed
contractor who has violated his warranties of good workmanship or
fitness of purpose. For example, suppose an unlicensed contractor
installed a deck without proper footings and in the first winter,
the deck heaved and racked out of square. The homeowner could sue
the unlicensed contractor for breach of warranty. The one thing that
a property owner can’t do, however, is sue for specific performance.
A lawsuit for specific performance is one that demands that the
court order the defendant to complete his contract. A contract with
an unlicensed contractor, in a state that requires a license, isn’t
enforceable. It would be an illegal contract, and the court won’t
order anyone to perform an illegal contract.
Suppliers to an unlicensed contractor
— A supplier to an unlicensed contractor doesn’t lose the right
to sue the unlicensed contractor. But in most states, a supplier to
an unlicensed contractor does lose his right to a construction lien
on the building site. Since the unlicensed contractor couldn’t
enforce a lien against the property owner, the supplier can’t
In order to get compensated for materials
already supplied to a job, most states will allow the supplier to
sue the homeowner directly for unjust enrichment. After all, Bigger
Lumbers didn’t intend to donate the materials to Harry the
homeowner, and Harry surely expected to pay somebody at some time
for materials. Unfortunately, the damages on an unjust enrichment
lawsuit can present a further problem for Bigger Lumbers. What you
win in an unjust enrichment lawsuit is supposed to reflect the value
of the goods, which may not be the same as the cost of the goods.
And, in most states, Bigger Lumbers won’t be
able to get paid if Harry has already paid Cal, the unlicensed
contractor, for the materials. They won’t make Harry pay twice for
the construction materials used on his job. In many states, this is
true even when Cal does have a license.
Subcontractors to an unlicensed
contractor — Suppose the subcontractor has a license,
but the contractor doesn’t. If the contractor doesn’t pay the
subcontractor, the subcontractor can sue the unlicensed contractor
for payment. In fact, the subcontractor could sue the contractor for
payment even if the subcontractor didn’t have a license, either.
It’s only the homeowner who can’t be sued. Licensed or not, the
subcontractor can’t sue the homeowner if the general contractor
didn’t have a license. The subcontractor doesn’t have any rights
against the homeowner that the general contractor didn’t have.
That’s because the subcontractor’s rights are derivative. That means
the subcontractor gets (derives) his rights from the contract
between the homeowner and the general contractor. If the general
contractor can’t sue the property owner, neither can the
In Michigan, a licensed subcontractor who was
working with an unlicensed contractor wasn’t even allowed to collect
against the Builders Fund when the unlicensed contractor didn’t pay
him. The court ruled that the contractor couldn’t have collected
from the Builders Fund, so his subcontractor couldn’t collect
either. That’s in spite of the fact the fund was established to
protect (among other people) subcontractors from property owners who
Another contractor — The
legislation barring unlicensed contractors from suing property
owners for collection is only intended to protect the property
owner. It has no effect on another contractor doing business with
the unlicensed contractor. Other contractors or suppliers can sue
the unlicensed contractor, or the unlicensed contractor can sue
them. In fact, they can sue each other even if none of them is
For example, suppose an unlicensed contractor
hired a properly-licensed subcontractor to pour a foundation, and a
big crack opened up because the cement was improperly cured. The
unlicensed contractor can sue the subcontractor for the money it
cost to repair the crack and for any money that the delay cost the
What About Design and Build Contracts?
Some states require design professionals to be
licensed by the state. In those states, a construction contract that
includes design functions that aren’t performed by a licensed
engineer or architect may not be enforceable by the contractor
against the homeowner, because of the lack of a proper license.
However, most states that require a separate design license have
held that a contractor without a design license is permitted to do
design work under the supervision of a licensed design professional,
like an architect or engineer.
What About Federal Projects?
Federal law, not state law, applies to federal
projects. Federal agencies have their own rules and regulations
about which contractors can do federal work. If a contractor or a
subcontractor working on a federal project meets the federal
requirements, it won’t matter if that contractor isn’t licensed by
the state the project is in. And any contractor, licensed or not,
can sue if he doesn’t get paid for work done on a federal project.
The Name of Your Business
Even if you’re running an unincorporated
business all by yourself off your kitchen table, that business is
still separate from you in some sense. Customers or suppliers may
not realize that you are John’s Better Roofs, so most states require
you to file the name of your business with some local agency.
In most states, unincorporated businesses must
register their business name in what’s usually called a fictitious
or an assumed name registry. There’s nothing sinister about that —
it just means you’re doing business under a name that’s not exactly
your own. That business name must be registered even though it
includes your name.
For example, John Smith can advertise himself
as John Smith, Master Carpenter. Even though that business name
includes his own actual name, it’s also the name of his business.
Most states will require it to be registered as an assumed name.
The law in some states doesn’t use the terms
“assumed name” or “fictitious name.” Instead, those states may
describe you as a company “Doing Business As . . .” or even just as
a “d.b.a.” The term is different, but the intent is the same.
In Michigan, you have to register with the
Assumed Names Index, located in the county clerk’s office. Some
states require a filing at the state level and publication in a
legal newspaper along with the registration. That gives someone
who’s already using that name an opportunity to object.
Selecting a Business Name
Before you chose a business name, try to make
sure no one else is using that name, because it’s against the law to
use a business name that already belongs to someone else. While it’s
not actually a crime unless you do it with intent to deceive, if
someone else is already using that name, they could sue you for
trademark infringement. They could collect damages from you, and
force you to stop using that name, even if you’ve built up a
business under that name.
If there’s a business already registered under
that name in the Assumed Names Index, the county won’t accept your
registration. But you can’t assume that just because they do accept
the registration, there’s no one in the next county or somewhere
else in the state using that name. When you’re choosing a business
name, take reasonable precautions, like first checking phone books
and directories to see if someone else is already doing business
under that name. Nowadays you’d better check on the Internet too!
If your name is John McDonald and you want to
call your company McDonald’s Construction Company, will there be a
problem with that? Probably not — for two reasons. First, because
you’re using the word construction as part of the name. That means
people hearing your company name won’t assume you’re selling
hamburgers. If you were, or if you were a restaurant or some kind of
food supply company, you’d be hearing from McDonald’s expensive
attorneys. The second reason it’s probably all right to use
McDonald’s Construction Company is that McDonald’s most likely
hasn’t registered that name as a trademark in conjunction with
construction. If they have, you’ll be hearing from their
Corporations aren’t usually required to file
assumed or fictitious names or d.b.a. certificates with the county
agencies. The name of the corporation and its official address is
already on record with the agency in the state that regulates
corporations. But the corporation will have to register if it’s
doing business under a name other than its corporate name. Like
individuals, corporate names can’t infringe on someone else’s
In addition to trademark restraints, most
states regulate what a corporation can call itself. That’s to
protect people who may not realize that they’re doing business with
a corporation, and therefore can’t sue the individual they’re doing
business with for nonpayment or breach of contract. They can only
sue the corporation.
State laws have strict rules about what can be
put into a corporation name, and they’ll review the name of a
corporation to see if it meets their standards before accepting the
incorporation papers. What the state wants is something in the
business name that makes it clear to people doing business with that
company that it is a corporation. The name has to include words like
Incorporated, Corporation, Company or Limited. Usually, an
abbreviation like Inc. or Ltd. is also okay. Corporations do have to
file an assumed names certificate if they’re using one. If the
corporation chooses to do business under an assumed name, even that
assumed name has to meet the state corporate naming standards.
What Records Should You Keep — and Why?
Personally, I don’t think you should ever
throw away business records. You might not agree, especially if you
can’t put your car in the garage because of all the banker boxes
full of records you have stored in there. So, what I’m going to do
here is talk about the minimum time you should keep your records for
legal purposes. There are four legal reasons, besides business
reasons, you should plan to keep your records.
You Might Need Your Records for Tax Audits
The IRS regulations say you should keep your
receipts, canceled checks, and other financial records for whichever
is longer: either three years from the due date for filing your
return, or two years from the date the tax was paid. If you have
employees, you must keep your employee withholding records for at
least four years.
That’s what IRS regulations say, but believe
me, the real number is six years. That’s because the IRS has six
years to assess you if you failed to report gross income 25 percent
greater than what’s shown on your income report. So, just in case
you’re accused of that, you’d better keep the records to prove you
didn’t — or at least, didn’t do it intentionally — for six years.
If you aren’t filing tax returns at all, then
just keep everything forever. If you’re caught, at least you’ll have
some evidence refuting the Rockefeller-like income that the IRS
could decide you had.
Your Insurance Company Might Audit You
You should keep copies of your contracts with
subcontractors and copies of their certificates of insurance on file
for at least three years, because your workers’ compensation
insurance company might audit your records. If they do audit you,
and if they find that you don’t have copies on file of your
subcontractors’ insurance certificates, the insurance company may
assume that’s because your subcontractors weren’t insured. What’s
your insurance company likely to do about that? They’ll hit you with
a nasty surcharge, because you’ve exposed them to more liability
than they’d agreed to accept. Insurance companies hate that.
You Might Be Sued
Another good reason to keep your records is
because somebody might sue you. It could be a breach of contract
lawsuit, a warranty lawsuit, or a problem with an employee (like a
workers’ compensation claim for an injury you say never happened).
Your testimony in a lawsuit is more convincing
if you have business records that support it. Even if these are
records you prepared yourself, they’re admissible in court if you
prepared them in the ordinary course of business. As long as you
wrote it down at the time of the event (and you typically do write
down that kind of event), written evidence is more convincing than
anybody’s memory — and a darn sight more likely to be accurate.
For legal purposes, I recommend keeping copies
of all your business contracts, purchase receipts, punch lists,
employee injury records, and a daily phone log that includes all
phone contacts with your business customers and the job site. Even
if you don’t actually use these records in court, it’s important to
have them to jog your memory. You’d be surprised how easy it is to
forget the details of even the most difficult and contentious
Statute of Limitations
You don’t have to live in fear of a lawsuit
for the rest of your life. People can’t wait forever before they
decide to sue. It’s simply not reasonable to let a potential lawsuit
hang over someone’s head indefinitely. So, if someone has the right
to sue you for some reason, the law requires that they do so within
a reasonable period of time — before all the witnesses die and
everyone has forgotten what the fuss was about in the first place.
The law that says the right to sue expires
after a certain number of years is called the Statute of
Limitations. Different states use different periods of time for
their Statute of Limitations. If you’re in a situation where you
need to be concerned about that, you should check with your
The Statute of Limitations varies for
different kinds of lawsuits, and for different states. But for most
kinds of civil (noncriminal) actions, the average limitation is
three years. I suggest keeping your records for six years, however,
because there are situations in which the plaintiff could get extra
time to bring a lawsuit.
For example, if the plaintiff is a minor, the
Statute of Limitations won’t even start expiring until the plaintiff
becomes an adult. That means that if a child trespassing on your job
site was injured, that child could possibly wait until he or she was
18 to sue you. In a situation like that, I’d advise getting some
legal advice about what you might be able to do to keep this from
hanging over your head for years. Your liability insurance carrier
may also have some legal assistance to offer you in this situation.
Keep All Employee Records
When you’re deciding what records to save,
don’t forget to keep all of your employee records for at least three
years. You should keep their personnel files, including all
applications, evaluations, injury reports, W-4s and INS I-9 forms,
as well as any complaints about them. Workers’ compensation claims
have very short notice requirements, but other kinds of claims, like
discrimination or ADA issues, have different standards.
The IRS requires that all new employees fill
out W-4 forms, which include their social security numbers and how
many dependants they want to deduct. The employers don’t have to
file these forms with the IRS in most situations, but they must keep
their employees’ W-4s in their office files.
When you hire someone who’s not a citizen, you
must fill out and keep an INS Form I-9, which you can get from the
Immigration and Naturalization Service. In the I-9 form you swear
that you believe that your employee isn’t an illegal alien, because
you took reasonable steps to check his or her status. Those
reasonable steps include checking immigration papers. You should
make copies of the papers you examined and keep those copies with
the I-9 form in your office files for at least three years after
hiring or for at least one year after terminating that employee.
In this chapter we’ve covered most of the
issues you’ll have to consider when you start your business.
Remember, some of them depend on what kind of business you set up —
sole proprietorship, partnership or corporation. But how do you
decide which is best for your business? That’s the subject of the
Contractor's Plain-English Legal Guide
Business / Legal Related