Start-Up Launchpad Blog

Businesses can benefit from utilizing workers provided by a staffing or temp agency. However, you should be aware that under Iowa law, these workers may also be considered employees of your business in certain circumstances, such as under the Iowa workers’ compensation law. 

Under Iowa law, when a worker is employed by a staffing agency or labor broker in order to provide services for the staffing agency or labor broker’s customer (the “special employer”), the staffing agency is presumed to be the employer of the worker. However, the special employer is also often considered a joint employer of the worker for purposes of workers’ compensation.

In order to determine whether a worker is an employee of the special employer, a court will consider: whether the special employer or the temp agency has the right to select the employees; whether the special employer or the temp agency has the responsibility for the payment of wages; whether the special employer or the temp agency has the right to discharge or terminate the employee; who has the right to control the work of the employee; whether the special employer is the responsible authority in charge of the work; and whether the worker and the special employer intended to enter into a contract of employment. Even if there is not an express written employment contract between the special employer and the worker, a court may find that there was an implied oral contract. Courts will consider whether the parties’ actions indicated that the special employer and the worker intended to and consented to enter into an employment relationship.  

In practice, the following facts indicate that a special employer is the employer of a worker provided by a staffing agency for workers’ compensation purposes:

• The special employer interviewed and/or had the right to select or approve the employees who worked at the special employer’s facility;
• The worker reported for work and maintained time records in the same manner as permanent employees of the special employer;
• The worker was treated the same as permanent employees of the special employer by, for example, wearing the same dress or uniform as permanent employees, working with permanent employees on the same shifts, being subject to the same rules and regulations as permanent employees and being included in company extracurricular events;
• The special employer had direct supervision and sole control over the worker;
• The special employer had the right to terminate the worker;
• The special employer had a practice or policy of employing workers provided by staffing agencies after a trial period;
• The worker was trained by the special employer;
• Worker’s shifts or hours were assigned by the special employer;
• The special employer was responsible for giving warnings to the worker for misconduct;
• The general employer did not have any representatives on site at the special employer’s facility.

Your business may not be able to or may not want to avoid being considered a joint employer of workers provided by a staffing agency – for example, if a business is an employer of temporary workers for purposes of workers’ compensation, it has immunity from common-law tort claims provided by the Iowa Workers’ Compensation Act with respect to such employees – but you should be aware that your business may be considered an employer of workers provided by temp agencies under certain circumstances.

On Wednesday, April 25, the U.S. Equal Employment Opportunity Commission (EEOC) issued revised enforcement guidance on the consideration of arrest and conviction records in employment decisions under Title VII of the Civil Rights Act of 1964.

To help HR professionals understand the new EEOC criminal background check guidance and its impact on employment, former EEOC Commissioner Leslie E. Silverman and the Society for Human Resource Management (SHRM) have provided a special report on the guidance and what employers should be doing to comply with it.

The privacy and security landscape for covered providers will soon be changing. A number of rules are finally making their way through the system in relationship to HIPAA, HiTECH and Stage II Meaningful Use. 

At the end of March 2012, “regzilla” or the “mega rule” was submitted to OMB. This rule is intended to encompass all of the regs that never made it out of HHS relating to the HiTECH Act. This includes accounting for disclosures, expanding organizations that are business associates, willful neglect, which will have significant impact upon, human resources, as well as training, marketing and fundraising rules, which will in all likelihood limit marketing processes, rights to request restrictions and disclosures, and finally something other than interim final regs for breach notification provisions. Indications are that this reg also includes references to GINA and a wide variety of other items which are pulled in under the HIPAA rubric. 

CMS has also issued the Stage II Meaningful Use notice of proposed rule-making which has a  wide variety of requirements, some of which will interact with these HiTECH issues. CMS is indicating that encryption will be the standard for all data systems, including mobile devices. This would include not just the mobile devices that are issued by the hospital or other provider, but also personally owned devices where healthcare information is accessed. Meaningful Use Stage II would also incorporate the ability to provide patients with the ability to view on-line, and transmit health information within four days of receiving the information by an eligible professional, hospitals would have to make this information available within 36 hours of patient discharge. There are also provisions for secure electronic messaging between patients and physicians as part of the Meaningful Use II standards.

Most HIPAA violations have to do with people, the way we behave or the way we don’t behave and how we manage the policies that we create internally. Violations tend to be triggered by sloppiness not criminal intent. The Office of Civil Rights, indicates that 69% of all HIPAA violations of 500 or more items are as a result of human error. A recent UCLA case points to this fact when there was a home invasion and a practitioner had his laptop stolen which contained significant patient information. Although the laptop was encrypted, the thieves also took the notebook which had all of the passwords written in it under a big bold heading of PASSWORDS. A quick review of other cases, including the recent HHS settlement with Phoenix Cardiac Surgery also points to the idea of a failure of training, failure to discipline employees who do not meet your HIPAA/HiTECH requirements and human error, plain and simple as the primary causal factor of breaches. Human error encompasses everything from true accidents to employees snooping because they would like to know what their ex-husband’s new girlfriend is like. As we look at trends in the hospital and clinic setting, we can note that the use of personal devices is up, that Iphones and Ipads are considered basic equipment by most physicians that access to a patient’s information and distractions, like a quick game of Angry Birds, are getting faster and more prevalent. Providers need to be planning ahead of these issues as we look at the release of new regs and new penalties for failure to meet basic requirements.

When clients come to me and tell me that they would like to start a business, I try to visit with them about setting aside money for taxes. The most common problem I see is when a business owner does not set aside enough money to pay his or her individual income taxes, especially when that person is used to having an employer withhold taxes from his or her paycheck. The sticker shock of having to come up with a lot of money to pay the taxes and a penalty the following April is one you want to avoid. 

Unfortunately, even in the years that your business does not make much money, there are taxes that need to be accounted for and paid, including:

• Individual income taxes
• Employment/payroll taxes for your employees
• Collection of sales and use taxes on your sales
• Excise taxes

Once you decide what taxes you may need to pay, you need to make sure you have allocated enough money to pay those taxes when they are due.

If you are taking a ‘draw’ from the business, I suggest that you deposit the entire amount of the draw into a ‘tax savings account’ and then transfer no more than 70% of that draw to your household account. Do not put the money in the household account first, as the chances of the money ever being transferred to the tax savings account are significantly reduced once the money is in your household account. 

Use the tax savings account only for taxes, and make quarterly estimated tax payments, based on your accountant’s suggestions from the amount you have kept in the tax savings account. 

If you are not taking a draw from the business, keep an eye on your net income so you know what your net income will be, as this is what you will be taxed on. In other words, keep enough money in the business account to distribute taxes to you at the time they are due, and to pay estimates along the way. 

If are behind in paying your taxes, get help! Do not let it get worse and fail to file your tax return just because you don’t have the money to pay. The penalty increases to up to 25% of the unpaid tax (plus interest) if you do not file a return. If you file a return and do not pay the tax that is due, the penalty is closer to 5% (plus interest).

In an earlier post, we noted that the National Labor Relations Board had agreed to postpone the effective date of its employee rights notice-posting rule. The new implementation date was to be April 30, 2012. However, due to injunctions from both the Washington D.C. and South Carolina Federal Courts the effective date of April 30 is now in limbo. Stay tuned for more information.

So you’ve started a new business and hired an attorney to make sure that your business is properly formed in order to give you some liability protection.  What is the next step?

Another important step in the process is making sure that you follow all the proper federal and state tax laws as the failure to do so could result not only in liability for your new company but also for you personally.  Besides just filing annual returns, there are also a number of other requirements.  Below is a list of some of the major items to consider when starting your business:

• Sales and Use Tax.  Are the goods or services you are selling subject to Iowa sales or use tax?  The Iowa Department of Revenue has posted an Iowa Sales and Use Tax Guide to help business owners determine if they need to pay for these taxes and how to go about getting a permit to collect such taxes or an exemption certificate to give to suppliers to purchase items without paying the sales tax.
   
• Employee v. Independent Contractor.  Will your workers be classified as Employees or Independent Contractors?  There is a big tax difference between those two classifications.  Generally for employees you must withhold income taxes and pay Social Security and Medicare taxes and unemployment tax on wages but you do not have to pay these items on payments to independent contractors.  The problem with misclassifying individuals who do perform work for you is that the company may ultimately be liable to pay the employment taxes for the misclassified worker.
   
• Employee Withholdings.  Will your business have employees?  If so, each employee will need to fill out a Form W-4 at both the federal and state level to determine how much to withhold from each employee’s paycheck for state and federal income taxes.  In addition to just withholding amounts for federal and state taxes, employees and employers are required to withhold amounts for Social Security and Medicare taxes and remit payments in a timely manner. Your new business will then need to make sure to comply with all filing and deposit requirements of such withholdings to the IRS and Iowa Department of Revenue.
   
• Estimated Tax Payments.  Are you required to make estimated tax payments?  If you receive income from your business that is not subject to withholding, you may be required to pay estimated income tax at both the federal and state level.  Typically this applies to self-employed individuals or individuals that receive large amounts of interest, dividends, capital gains, rents, royalties, business income, or farm income.

In addition to these items, Iowa also has unemployment tax and employer’s can set up an account through Iowa Workforce Development.  The IRS also has some additional guidance for new start-ups on their website.

It is much easier and less costly for new businesses to make sure they are complying with all tax laws in the formation stage rather than waiting until they receive a notice from the IRS or Iowa Department of Revenue for failure to comply with such rules and regulations.  Penalties and interest can be very steep and tax debts may not be dischargeable in bankruptcy.

One take away from last weekend’s Startup Weekend Des Moines is that capital is not always the fuel that stokes the fire; it's the long days and nights put in by designers, developers and marketers working towards a common goal.  Surprisingly, many entrepreneurs fail to recognize this when setting up a company. 

First, they focus their equity split on the amount of capital contributed by each founder rather than the quantity and quality of the services that each founder provides.

Second, even if they do cast their eye towards services, they often fail to acknowledge that those services will be provided over an extended period of time, rather than at or prior to the date their company is formed.

These oversights can create fundamental rifts in a startup.  In some cases, founders that provide material services may start to feel like they have been short-changed by those who contributed capital in exchange for a large part of the available equity, and lose motivation.  In other cases, founders that contributed capital can feel short-changed when services are not timely rendered or are not rendered at all.

To deal with these issues, it is first important to thoroughly understand your business, its service and capital needs.  For example, you need to examine what services will be needed to bring the product in question to market and what those services would cost in the open market.  You also need to understand your capital needs and the availability of that capital in the marketplace.  These and other factors should drive the relative values you place on startup capital and services.  To give structure to this examination, you should develop a business model and financial projections.  A wonderful tool for that has been developed by Mike Colwell and can be found at http://www.startupmodels.com/. 

Once you determine the relative value of capital and services, you need to address the fact that while startup capital is generally provided upfront, startup services are generally provided over time.  To ensure that those services are actually provided in a timely manner, we generally advise our clients to subject service-based equity to vesting. That vesting can be based upon time or the accomplishment of certain established milestones. It can also be tied to revenue or anything that is deemed relevant, although time-based vesting is the most common. 

Vesting is technically accomplished through the use of a restricted stock, unit or a similar agreement.  The exact terms of that agreement will be determined by the vesting metric that is selected, such as:

• whether the equity interest is partially or fully service based;
• how much salary the founder is being paid in cash, and;
• how the business is expected to perform (e.g. if you expect to have an exit event in two years or to give up on it if it hasn't taken off by then, a four- year vesting schedule does not really make much sense).  

To make these agreements easier for startups to deploy, we have automated their production through the Start-up Launchpad.  For more information on the agreements, navigate to our client area, set up an appointment at our next office hours event, or simply give us a call at (515) 288-2500.  We would be happy to discuss these agreements and how they can be used to the benefit of your startup.

I just spent part of the past weekend mentoring teams at Startup Weekend Des Moines, one of the best startup events that we’re involved with. It is amazing to see what people were able to accomplish in 54 hours. The local entrepreneur community has tremendous talent and dedication. It was also fun to follow Des Moines Register reporter Marco Santana’s blog posts relating his take on his first Startup Weekend.

Mentoring teams is a ton of fun and is very inspiring. I had several memorable (and often amusing) discussions with the 15 or so groups. There is always a huge variety of teams at Startup Weekend events, and this one was no different. From the winning team of Doodle Cloud (a cute app for kids) to a site dedicated to expressing your road rage to the world and another for creating recipes from the food you have in your cupboards, creativity and quirkiness abound.

As is expected from a very tight 54-hour schedule to take the concept from the abstract to a fine-tuned pitch, most if not all of the startups born this weekend were web or mobile-app based. Therefore, I thought it might be helpful to provide some general comments about one of the key legal concepts for web-based startups: the Terms of Use of a website.

What do startups need to know about Terms of Use agreements?
One key consideration for a startup with a web presence is the content of the site’s Terms of Use (TOU). A website’s TOU define the legal relationship between the site and the site’s users and are extremely important in protecting the website owners from liability stemming from the user’s use of the site. The TOU should be tailored to the website’s particular situation and will vary depending on the types of services or products offered on the website and the ways that users are able to interact with the site. A website’s TOU should:

• Define how users can interact with the website. If your users can upload or post outside content (like Flickr, Facebook or YouTube allow their users to do), it is critical that your TOU require users to affirm that they either own the content they are posting or have permission to use it. You (the website) especially want to protect yourself from claims that the content posted by your users on your site was the intellectual property of someone else. For example, if you allow your users to upload videos, you want legal protections in place if the user uploaded a video created by someone else and the user didn’t have permission to upload it. You need to limit your liability to the owner of that video in the event that a copyright infringement lawsuit is brought by the owner against your website for showing a video uploaded by your user.
• Designate an agent to deal with complaints under the Digital Millennium Copyright Act (DMCA) if your site allows users to post content. You will also need to comply with the DMCA’s takedown provisions if you receive complaints from a copyright owner. • Affirmatively state that the website owns all content that was originated by the website (including the appearance of the website, the content, and the website’s trademarks).
• Your TOU should include a user’s code of conduct if the site’s users will have the ability to interact with each other.
• If you will be offering your product or services for a fee, your TOU may need to include pricing information and payment details.
• Depending on the field that you operate in, you may need specific disclaimers. For example, if you operate in the health care field, you may need disclaimers stating that you are not providing medical advice. • Your TOU should include limitations on your liability in terms of the type and amount of damages you could be responsible for. It is also common to shift responsibility for damages resulting from the user’s breach of the TOU to the user (usually using indemnification provisions).
• There are many boilerplate provisions in TOU, including language to prevent the unauthorized manipulation of the website, data harvesting and other similar actions, and identification of a state where disputes about the use of the website will be determined.

To get an idea of what types of provisions should go into TOU agreements, it can be helpful to look at what others have done who are operating in the same space as you. While you should not copy others’ TOU for many reasons, reviewing examples can help you determine what you may need in yours.

If you have downloadable software or a mobile application, you will need an end user license agreement (EULA) that will similarly govern the downloader’s use of the app. EULA’s often look very similar to a website’s TOU.

Another legal agreement that websites usually need is a privacy policy, which tells the site’s users what you will be able to do with the information (including name, email address, and other content) that they upload to your site.

Because terms of use agreements, privacy policies and end user licenses are legal contracts, it is usually best to get assistance from an attorney who can help tailor an agreement based on your particular situation.

As part of the software and cyberlaw services available through the Start-Up Launchpad, clients have access to a flat-fee Website Terms of Use and Privacy Policy that can be customized to meet their business needs. 

If you are a newly minted entrepreneur or have identified key resource gaps in your organization, an Advisory Board can be extremely helpful. Studies have shown that the most successful startups seek out, listen to and implement mentor advice. This can be done on an ad hoc basis, but the formality and structure of an Advisory Board can enhance the process of gathering and implementing mentor advice.

This is not to say, however, that every startup will benefit from an Advisory Board.

First, they take time. As noted below, an Advisory Board is unlikely to provide any benefits and may even cause harm if it is not populated by the right people, and nurtured appropriately. This takes time. Lots of time. It is not unreasonable to expend hundreds of hours finding and enticing the right people to join your Advisory Board and another fifty to one-hundred hours each year nurturing your Advisory Board. For entrepreneurs with little time, this can be difficult and, in some senses, a distraction from other more critical business tasks.

Second, Advisory Boards can be expensive. It is not unreasonable for Advisory Board members to ask for compensation for their efforts. In many cases, this comes in the form of equity and in most cases ranges from .25% to 1% per advisor. Even if they don’t ask for compensation, you will incur expenses. As noted below, it is important to enter into contracts with your Advisory Board members, communicate with them, hold regular meetings and take other actions to keep them engaged. All of this costs money. These expenses can quickly outweigh the benefits of an Advisory Board in many circumstances.

Finally, they create risks. Members of an Advisory Board are not subject to the same fiduciary duties that the directors, managers or officers of a company are. This can create legal risks (e.g. the disclosure of confidential information). While most of these risks can be mitigated through proper management, they cannot be eliminated.

Assuming that a company believes that an Advisory Board provides more benefits than burdens, the next step is determining who should be on the Advisory Board.

WHO SHOULD SERVE ON MY ADVISORY BOARD

The determination of who should serve as an Advisory Board member must be closely correlated with the reason you decide to have an Advisory Board. For example, if you decided that you need an Advisory Board to provide additional industry depth, seek out industry thought leaders; if you decided that you need an Advisory Board to help you with financial and fundraising matters, seek out people that have financial and fundraising experience.

You should also look for people that will be actively involved with your Advisory Board. While it is always nice to be able to say that you have a recognized industry leader on your Advisory Board, such people are often over-extended and of little actual help. In most cases, you would be better off looking for engaged and responsive people than recognized individuals.

Finally, you should look for people that you can fire and you should think twice about bringing funding sources onto your Advisory Board. Things don’t always work out as planned. If you raise money and a member of your Advisory Board is an investor, it will look bad if they do not participate in the fundraising. If a representative of your largest customer is on your Advisory Board, what do you do if they never show up or are disruptive when they do? 

Once you have identified the ideal candidates for your Advisory Board, you have to consider how much you should pay them.

HOW MUCH SHOULD I PAY MY ADVISORY BOARD

As noted above, it is not uncommon for advisors to request equity compensation that ranges from .25% to 1% per advisor. While you should seek to minimize your compensation costs, that should not be your primary driver in the selection of people to serve on your Advisory Board. The quality of the advisor, their fit with your needs and their engagement with your company should be paramount. Moreover, paying people tends to impose a responsibility on them. For that reason, we often encourage our clients to make cash payments to their advisors, even if small in amount, when they provide services (e.g. $250 at each quarterly meeting they attend). In the same vein, we also recommend that the equity they receive be subject to vesting requirements. People always perform better with some financial encouragement. 

In the end, if you need to cut costs, do so by cutting the size of your Advisory Board and not its quality. Small Advisory Boards (3 to 5 members) work best anyway.

Of course, once you have an Advisory Board, you have to figure out how to use them.

HOW DO I BEST UTILIZE MY ADVISORY BOARD

The exact role of your Advisory Board members will depend upon their intended function, but a few broad rules apply. First, you should develop a clear list of expectations (e.g. what should they do and when should they do it). Simply saying that they should provide strategic advice is not the best approach. Tell them that they need to attend Advisory Board meetings each quarter, meet with the company’s officers “X” hours per quarter, etc. etc. Determine what you want them to achieve and get agreement on that up-front.

• Schedule regular meetings with your Advisory Board.
• Communicate with them regularly. 
• Develop individual relationships with them. 
• Have fun with them. 
• But, more important than anything else, listen to them. That is why you hired them in the first place.

Of course, we are lawyers so we also have a few ideas about the legal aspects of an Advisory Board.

WHAT LEGAL CONSIDERATIONS DO I FACE WITH AN ADVISORY BOARD

As noted above, your Advisory Board members are not employees, directors, managers or officers of your company. Therefore, it is unlikely that they have the same fiduciary duties to the company that these other agents have. To deal with that, you should enter into a written agreement with your Advisory Board members. That agreement should, among other things, set forth in clear and concise language:

• What you expect the members of your Advisory Board to do and when;
• What they will be paid and when;
• How they can be terminated;
• What duties they have to the company (e.g. the duty of confidentiality and non-competition);
• Who owns the intellectual property they help produce in the scope of their duties;
• A system for dealing with conflicts of interest and other corporate opportunities;
• Whether you can publicize their involvement with your company; and,
• Whether you will provide indemnification and/or insurance coverage for them.

The agreement should also clarify that they are mere independent contractors and that they do not have the agency power to bind the company.

To assist with these contracts, we are in the process of developing an automated Advisory Board Agreement for our Start-up Launchpad clients. It is currently in the test phases and should go fully live in a week or two. We will post again when it is complete. In the interim, give us a call if you are interested and have any desire to provide input.

One common piece of advice that securities lawyers often provide to clients is that there are three ways to raise capital by selling securities: (i) by registering the securities with the U.S. Securities and Exchange Commission (“SEC”), (ii) by utilizing an exemption from registration, or (iii) illegally.  The first of these options is time consuming and expensive, particularly for startups.  The third option is, well, illegal.  However, the second option, utilizing an available exemption from registration, is commonly used by startups to raise seed capital and in subsequent venture rounds.  An SEC-established committee has now made a recommendation that would make the capital-raising process even less burdensome to startups in certain cases.

The SEC established the Advisory Committee on Small and Emerging Companies (the “Advisory Committee”) in 2011 to seek advice on SEC rules and regulations as they relate to emerging companies, privately-held small businesses, and certain smaller publicly traded companies.  On January 6, 2012, the Advisory Committee voted to adopt a recommendation to relax or modify restrictions on general solicitation and general advertising in connection with the most commonly utilized exemption from registration.

That exemption, known as Rule 506, currently provides that neither the company seeking capital nor anyone acting on its behalf may offer or sell securities by any form of general solicitation or general advertisement.  This prohibition effectively prevents a startup from raising capital from anyone with whom the startup does not have a substantial pre-existing relationship.  The rule prohibits, for example, seeking investors via a general notice placed on the company’s social media sites.

The Advisory Committee found that these restrictions prevent many companies from gaining sufficient access to sources of capital.  Additionally, the Advisory Committee found that the investor protections afforded by these restrictions are unnecessary in cases where securities are sold solely to accredited investors.  The term “accredited” investor includes, among others, individuals that meet certain net worth or income thresholds, as well as business entities that have a specified minimum total asset valuation.  Under the Advisory Committee’s recommendation, as long as a company’s securities are sold only to accredited investors, the current prohibitions on general solicitation and general advertisement would not apply.

It remains to be seen what action, if any, the SEC will take with respect to the Advisory Committee’s recommendation.  However, as noted in a previous post, there is momentum in Washington to ease certain securities law restrictions in order to make it easier for closely held companies to raise capital.  If fully implemented, the Advisory Committee’s proposed changes to the most commonly utilized exemption from registration could provide startups with a useful pathway to seed or venture financing from individuals or entities with whom the startup does not have a substantial pre-existing relationship.