How to protect your small business from a lawsuit

Approximately 12 million contract lawsuits are filed every year against small businesses, with the average liability suit costing at least $54,000.1 For small businesses in every industry, the possibility of facing a lawsuit is a real risk. 

Small business owners can follow a number of preventative measures to help avoid a lawsuit before it even happens. While you cannot prevent every cause for litigation, here are five methods to minimize your risk. 

5 Ways to protect yourself from small business litigation 

1. Be mindful of behavior 

Business owners must be aware of what they say and do in positions of leadership. Comments or actions perceived as discriminatory, offensive, or defamatory could lead to a lawsuit. This applies to in-person and online interactions both inside and outside working hours. 

Treat your employees, customers, and partners with respect. An employee handbook can also provide accessible, detailed, and up-to-date guidance on appropriate behavior to decrease litigation risk. Since employees also represent the company, encourage them to be mindful of their actions. Remember a business can be seen as liable for an employee’s offensive comments on social media platforms. 

Business owners should also be mindful of their business relationships. Be cautious about who you do business with, taking the time to vet potential partners to ensure the company is only associated with trustworthy and reliable brands. 

2. Create separate entities 

Maximizing tax savings and protecting personal liability are just two reasons to consider your business structure. Different business frameworks can leave personal assets vulnerable to legal action. We recommend consulting with an attorney and accountant to determine the best structure for your needs, but here are some terms to know. 

  • Trust: A trust is a legal entity that holds assets on behalf of beneficiaries. Trusts are commonly used in business structures to protect assets from business liability. 

  • Sole proprietorship: A single individual owns and operates the business, and both personal property and finances can be at risk during business litigation. 

  • Incorporation: Incorporating your business is the legal process of forming a corporate entity, which protects personal assets from any business debts or liabilities. 

As a best practice, small business owners should separate personal and business finances. Consider structuring your business as a trust or incorporating it to establish a solid legal boundary between assets. 

3. Obtain insurance  

Depending on your business type, you may already be required to have insurance. But not all policies provide adequate coverage against litigation. 

Business liability insurance, or commercial general liability insurance, can be an essential part of protecting small businesses. This coverage applies to bodily injury, property damage, and personal injury claims. General liability insurance comes in different varieties for small businesses, each addressing specific risks that can result in potential liability. Some common industries requiring different insurance types include: 

  • Medical/dental businesses 

  • Law/legal businesses 

  • Finance and lending 

  • Construction/manufacturing/labor businesses 

  • Restaurants and food services 

  • Transportation 

Some types of liability insurance small businesses commonly purchase include: 

  • General liability insurance 

  • Property insurance 

  • Business interruption insurance 

  • Cybersecurity insurance 

  • Professional liability insurance 

  • Workers’ compensation insurance 

  • Employment practices liability insurance 

We suggest consulting a lawyer to determine the correct insurance for small businesses in your industry to adequately protect your company. 

4. Maintain strong written records 

Maintaining complete and accurate records can keep your business organized and provide valuable protection in the event of a lawsuit. Here are some tips to keep in mind. 

  • Choose a reliable record keeping system that is secure and easy to use whether paper-based or digital. 

  • Keep up-to-date financial records including transactions, invoices, receipts, and bank statements. 

  • Maintain accurate employee records including employee information, job applications, resumes, and personnel files. This can aid in discrimination lawsuits and offer protection from an employee dispute. 

  • Record customer and vendor interactions including contracts, agreements, and communications. 

  • Train employees on record keeping for consistency and compliance. 

  • Use non-disclosure agreements to protect sensitive information. 

  • Consider e-signatures, legally binding agreements that make record-keeping more efficient, especially when working remotely 

  • Store documents securely, either digitally, physically, or both (i.e., online bank vault) 

  • Invest in data protection that allows for easy document access while still protecting against a data breach. 

We recommend having an attorney review any agreements or contracts before sending them to clients and vendors. Attorney review is also wise before signing any contracts sent to your business.  

5. Hire a lawyer 

A thorough, reliable lawyer can be an invaluable resource to help you prevent legal issues and provide guidance if legal action is taken against your business. If you find yourself in the unenviable position of being sued, it’s also better to already have a relationship with an attorney who knows you and your business to represent you. Here are a few things a lawyer can do for you as a small business owner. 

  • Conduct a legal audit to identify potential areas of legal risk 

  • Navigate legal regulations regarding grants and loans including the Small Business PPP loan program 

  • Review contracts and agreements to ensure they are legally sound and in your business’s best interests 

  • Offer advice on labor law compliance to reduce potential employee liability 

  • Provide guidance on regulatory compliance including data privacy laws and intellectual property 

 When you are ready to hire a lawyer, you can leverage a number of different resources. 

  • Local small business administration 

  • Local chambers of commerce or business associations 

  • Local bar association 

  • Online directories 

  • Legal aid organizations 

  • Fellow small business owners who can provide recommendations 

Take charge of your business’s fate 

Protecting a company from lawsuits is part of running a successful business. Hiring a lawyer, choosing the right insurance coverage, and forming boundaries between your personal and business finances can be steps to reduce the risk of a costly and drawn-out legal battle. 

1Small Business Statistics,” The Zebra, Jan 30, 2023

This article is provided for general informational purposes only. Neither New York Life Insurance Company, nor its agents, provides tax, legal, or accounting advice. Please consult your own tax, legal, or accounting professional before making any decisions.? ? 

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