7 Tips to Protect Your Online Business

Most new startups require an online presence in some capacity. For many, their business is solely online. As with any business, there are legal risks and issues which must be addressed for online entrepreneurs. The following are seven tips to protect your online business. 

1. Choose Your Business Entity Wisely

Until an entrepreneur formally registers his business as an LLC or corporation, he will be operating the business as either a sole proprietorship (if he is the sole owner) or as a general partnership (if there are two or more owners). Neither of these business forms provide great legal protection to the business owners.

One of the main advantages to forming an LLC or corporation is that these entity structures create a liability shield between the debts, obligations, and liabilities of the business, and the debts, obligations, and liabilities of the owners. The owners' personal assets will not be put at risk for business debts, and the business assets will not be put at risk for the personal debts of the owners. Mistakes will happen in your business, and you need this liability shield to protect you and your family. 

Once you establish that you need to form a legal entity to operate your business through, you need to determine which entity type makes the most sense for your particular business. Each entity structure has its advantages and disadvantages. Below are my general thoughts on the best business entity for particular business scenarios.

YOU PLAN TO GO BIG WITH YOUR BUSINESS

If your goal is to build a business in which you plan to receive venture capital funding, scale like crazy, and achieve a good exit (e.g., merger, acquisition, IPO), you should form your business as a C-corporation in Delaware. 

Sophisticated investors will oftentimes only invest in Delaware C-corporations because Delaware corporate law generally favors investors, they prefer the corporate structure to scale the business through because of the governance and equity incentives which are available, and certain investment funds are comprised of investors who cannot invest in pass through entities (e.g., LLCs and S-corporations) due to tax and legal restraints. 

If you choose this route for your business, you will need to make sure you file a foreign entity registration form with the state in which the business primarily conducts its business, in addition to filing with the State of Delaware. If a large exit is not the goal of your business and you wish to treat your business more as a "lifestyle business", you have another option. 

LIFESTYLE BUSINESS

If you intend to run your business as a "lifestyle business" and foresee yourself in this business for an extended period of time, I typically suggest forming an LLC as the legal structure for the business. This business structure offers the greatest flexibility and creativity among the business owners, and typically offers the greatest tax benefits to the everyday business owner. 

Once the business is up and running and the financial condition of the business stabilizes, it oftentimes makes sense for LLCs to then make an "S-corporation" election for tax purposes.  Making this election will most likely save the members a good sum of money in employment taxes. However, there are certain limitations to S-corporation elections, so you need to consult with an attorney prior to making this decision. 

2. Affirmative Acknowledgment to Site's Terms & Conditions and Privacy Policy

A website's (or any other form of online property's) Terms and Conditions is designed to operate as a contract between the website's users/customers and the online business itself. Most websites either don't have Terms and Conditions, or they are placed at the bottom of each webpage where virtually no one will ever read them. So the question arises: if a user does not read the website's Terms and Conditions, are they legally bound by them? 

This is an area of law which is still developing among the state courts. However, the general answer is no. Therefore, all websites who attract users, who in some form or fashion interact with the website (e.g., make purchases, open an account, etc.), need a "check-the-box" module to force users to affirmatively agree to the Terms and Conditions, Privacy Policy, and any other legal requirements.

 Just merely having a set of Terms and Conditions on your webpage somewhere is insufficient. In addition to having a "check-the-box" module, businesses need to maintain a database tracking each user's action in actually clicking the box. This will serve as a paper trail in the event a dispute ever arises. 

With respect to purely information sites (e.g., blogs with no user interaction), these types of businesses probably do not need any "check-the-box" modules since their users have no real opportunity to affirmatively acknowledge them anyway. In this situation, the best practical and legal solution would be to post a link at the bottom of your webpage to the Terms and Conditions. It is uncertain how a court would rule if a dispute arose as to these Terms and Conditions, but at this point in time it is the most practical legal solution available (without having to require each visitor to click a button before accessing your site, which obviously is not practical). 

3. Digital Millennium Copyright Act (DMCA) Compliance

If your website allows visitors to interact on your platform (e.g, if they are allowed to post anything to the site or a platform hosted by the site), you will need to ensure you have mechanisms in place to comply with the Digital Millennium Copyright Act ("DMCA"). This interaction is called, in the legal world, "user generated content". 

The DMCA provides online businesses with an immunity from copyright infringement actions arising from the content posted by users of the business's website. For example, if your business website allows users to upload photos or videos to your website, or a platform hosted by your website, and a user committed copyright infringement because they posted another person's photo without permission, your business would normally be liable for copyright infringement as well because your website is displaying another person's content without their permission. However, if your business takes certain steps under the DMCA, you will be shielded from copyright claims arising under such a scenario.   

If your website allows "user generated content", I suggest consulting with an attorney to determine what mechanisms you need in place to fall under the protection of the DMCA.

4. Put a Class Action Waiver In Your Terms and Conditions

One of the primary reasons you want Terms and Conditions for your website is to protect you and your business from liability. Inserting a "class action waiver" into your Terms and Conditions will effectively prevent your website users from teaming up together to bring a massive lawsuit against your business. 

Practically speaking, if a dispute arises to which a large number of users are affected, a class action waiver would require each individual user to pursue their claim separately. This stifles the motivation to pursue lawsuits for many users due to the higher cost to pursue an action separately. If users are permitted to band together and file a class-action lawsuit, they will be able to afford more expensive legal counsel and their remedies would inevitably increase the cost to your business substantially.

Individual users pursuing lawsuits will have a business cost to you, but a class-action lawsuit has the potential to put your business under. You cannot afford not to have a class action waiver in your Terms and Conditions. 

5. Arbitration and Choice of Forum Clauses in Terms and Conditions

In addition to a class action waiver clause, your online business should have a mandatory arbitration clause and a choice of forum clause in your Terms and Conditions. 

Mandatory arbitration clauses require cases brought against your business to be decided by a neutral arbitrator rather than by a judge or jury. Generally speaking, arbitrators tend to be more business friendly than juries. This is good for your business and will make it less likely for plaintiffs to receive windfall awards which could put your business under. 

Having a choice of forum clause in your Terms and Conditions will ensure you will not be required to appear in other locales to defend any lawsuits brought against your business. Since online businesses typically have customers all over the U.S., it can be very expensive and time consuming if you were required to defend cases in a state other than your own. In addition, if a potential plaintiff knows he will be required to file a lawsuit in your state of residence (or submit to arbitration there), this may deter them from filing a lawsuit in the first place. With this being said, a choice of forum clause will generally be enforceable a good percentage of the time, but may not be enforced in certain states and under certain circumstances. However, these situations are the exception, not the rule. 

Mandatory arbitration clauses and choice of forum clauses aren't sexy, but as you can see, they can save you massive headaches down the road if properly incorporated in your business's Terms and Conditions. 

6. Disclaimers for Recurring Billing

If your business has customers paying an automated amount (e.g., monthly, quarterly, annually), your business needs to make an automatic billing disclosure to your customers. As you can imagine, many businesses try to intentionally make it difficult for customers to cancel their subscription or recurring payments. Consumer protection agencies in many states have taken notice and have passed laws to protect customers from overreaching in this area. 

Generally speaking, these disclosures need to provide clear, simple instructions for terminating automated payments charged to customers. Each state has different requirements with respect to these disclaimers, so it would be advisable to consult with your state's pertinent statutes and regulations to ensure your policy conforms with the law. 

7. User Information Clauses

Most standard form Terms and Conditions have a provision which states that your business will not sell or rent your customer data and information to third parties. This appears upstanding and consumer-focused on the surface, but if you intend to ever achieve an exit for your company, this simple provision could cost you substantial sums of money. 

Why is this? When an acquisition of your business occurs, the acquiring company will be purchasing your business's customer information and data associated therewith (e.g., names, contact information, etc.). This data is extremely valuable to acquirers. If you have a clause in your Terms and Conditions promising never to sell your customer information, you cannot offer this to a potential acquirer in a liquidation event. 

This could be disastrous and costly for you and your business! There are several real life examples of acquisition deals falling through because of this simple misstep. 

Closing Remarks

The seven legal tips outlined in this article should address many of the legal issues facing your online business. This is not an exhaustive list of all possible legal issues to consider, but it should be helpful to you and your business. Feel free to contact me with any questions.

About the Author: Matt Jones is an expert in legal issues facing entrepreneurs, startups, growth companies, and venture capital firms. He advises businesses all over the United States, most notably in Silicon Valley, New York City, Oklahoma City, Denver, Dallas, and Washington D.C. Matt is the founder and managing director of Verge Law Group, P.C. His personal website is mattjoneslaw.com.