Avoiding a Lawsuit from a Lawyer's Perspective

Let’s face it, we live in a litigious society.  I once heard that Washington state alone admits more lawyers to the Bar per year than Japan has attorneys.  If that fact is not true, it seems true.

On the other hand, it is easy to go overboard.  Most business people operate their businesses successfully without ever being sued. 

In determining a course of action to protect yourself without going too far, begin with these simple questions:

How likely is it that you could injure someone?  At first, this seems like an easy question.  Clearly open heart surgeons are much more likely to physically injure someone than a plumber.  However, injury can come in a lot of different shapes.  Do you enter into contracts, leases or licenses in which someone could allege that you breached the contract and they lost money?  Do you sell a product that you did not manufacture that, if it failed, could seriously injury someone?  Do you consult with people on complicated topics in which they rely on your advice to their benefit or peril?

If injury is possible, what is the general attitude about your industry?  As we know, just because you injure a person does not mean that you are financially responsible.  The surgeon is a good example.  Although the risk of injury is high, the surgeon is only liable if he clearly breached a “duty of care.”  We can argue about what that means and the truth is only a jury can decide what the duty is but we generally know that some customers assume risk when they do certain activities.  The real question is whether you have taken every reasonable precaution to protect your customers and other people with whom you encounter?

Does your industry have a lot of rules?  Some industries are regulated and others are not.  As near as I can tell, there are no regulations specific to people who give advice to high school kids who want to go to college.  Financial advisors, on the other hand, are regulated by three major federal statutes, state versions of those laws and regulations passed by, in some cases, different agencies, e.g., Department of Financial Institutions and the Insurance Commissioner.  Your risk is not limited to just a private entity who can claim you owe them money.  In some industries, you run the risk that the government will assess  a financial penalty, suspension or even a criminal action for violating a rule that you did not even know about.  Examples of highly regulated industries are:  financial advisors, stock brokers, real estate agents, day care providers, mortgage brokers and even lawyers.

Should you insure?  Like a month to a flame, many trial attorneys first ask whether a potential defendant has insurance to pay for the claim.  Candidly, many cases will not go forward or go away quickly if there is no money to pay for the injury.  If it sounds like I am advocating that you should not adequately insure against potential loss, I am not.  I am simply pointing out that the cost of insurance is yet another expense to your business and should be considered carefully.  If the potential that you might injure someone is high and the cost of the loss is high, then you should absolutely insure. 

Are your assets worth protecting?  Another factor to consider is your overall financial picture.  If you have many large financial assets, what have you done to protect them?  On the topic of insurance, the number one best and proven asset protection strategy is owning insurance.   In the event you are sued for damages and lose in court, liability insurance pays out to the creditor alone and preserves your personal or other business assets. Thus, if you have a lot of wealth, then keep the trial attorneys focused on the insurance policy and not your yacht.   If insurance is not adequate to cover your potential loss, do you have a properly formed and operated business entity (see below) that can offer some limited liability and protect your personal assets.  As a last resort, have you considered estate planning strategies that protect your assets from creditors and comply with the fraudulent transfer statutes.  Parenthetically, this difficult to do but possible.

If someone did sue, what would they sue?  We all know that a Limited Liability Company or a Corporation will protect our personal assets if we get sued.  That is not entirely correct.  There are a set of rules about that but one of the big issues is whether the person who sues you even knew that you operated as a business.  A court will want to know how you represented yourself to the public and to the injured person and will even look into how you ran your business. Thus, ask yourself whether you have truly followed all of the rules that govern the proper operation of these entities.   If you just filed Articles of Incorporation but left it at that, then the Court will probably rule that your personal assets are available to pay for injury to the plaintiff. 

What makes sense for you?  Small business is great because there a lot of right answers.  If you are not the kind of person who likes to follow “corporate formalities”, then is it time to buy a big liability insurance policy and just act as a sole proprietor?  Candidly, for many solos, it is less expensive for them to insure against loss with insurance and forget the LLC, S Corp thing and all the annoying filing and annual fees entirely.  Remember the cost of LLC and S Corp is also the accounting and reporting fees annually.  In some cases there are tax reasons to have a business entity, but for many self-employed people,  LLCs and S Corporations cost more than they are worth. 

The problems and the answers truly vary from person to person.   Don’t be afraid to look at it your own way and, primarily, analyze the problem from a financial perspective.  Sounds blunt but business is about making money and keeping the money you have made.