Everyone makes mistakes—even the savviest entrepreneurs. But if you know some of the most common, and biggest, mistakes that people make when starting a business, you can take steps to avoid problems that could set you back from reaching your goals.
We know that launching a successful small business is hard enough, so we’ve compiled a list of 12 of the biggest errors that new business owners tend to make quite often. Avoiding these “dirty dozen” mistakes could help give your fledgling company the very best start.
By the way, if you’d like to discover more about starting a business, consider reading through The Ultimate Guide to Starting a Business In California.
Please note that, while we’ve made every effort to ensure that this information is accurate and up-to-date, it doesn’t constitute legal advice, and it isn’t a substitute for legal advice. Consulting with your attorney is the optimal way to get guidance regarding all aspects of running your business. Now, on to the list!
- No Business Plan
- Failure to Adequately Fund Your Business
- Failure to Keep Adequate Business Records
- Failure to Obtain Adequate Insurance
- Failing to Choose the Right Business Entity
- Undercharging for Your Product or Service
- Failure to Get a Business License
- Failing to Protect Your Business’s Intellectual Property
- Failing to Set Up a Separate Business Bank Account
- Failing to Set Aside Money for Taxes
- Failing to Use Written Agreements
- Failure to Get Expert Help
- There’s Another Way to Avoid Mistakes
- Reap the Benefits of Working Smarter
Don’t have a business plan in place? That’s a problem.
But, wait, what’s a business plan, you ask? Basically, it’s a document that you create, either by yourself or with the help of others, in order to lay out your goals for your company. More specifically, you’ll hone in on your goals for the next three to five years—and that includes financial projections as well.
With the help of your business plan, you’ll be able to outline how you intend to achieve all of your goals. So, if you start a business without this plan in place, it’ll be like going on a long road trip without a map or navigation app.
One scenario in which a business plan is a must is if you want to raise money from investors or obtain a bank loan. Your plan should include sections that describe your business, as well as the products and/or services that you’ll sell. It should also contain an analysis of your market, including competitive research on other similar companies. And it should discuss how your company will be structured and managed, what your marketing and sales strategy will be, what your funding requirements are, and what your financial projections are for the next three to five years.
What if you aren’t aiming to raise any outside funding for your business? Well, in that case, you might not need a formal business plan. But you can use a much shorter plan, which is also known as a lean startup plan. This can be just a series of charts. And, even if you never show your plan to anyone else, it will still come in handy because it can help you think objectively about the goals you hope to achieve, along with how you’ll achieve them.
Ready to get a plan together for your freelance business? It isn’t as hard as you might think! There are dozens of business plan templates and examples online. Plus, the Small Business Administration has even created a free online Business Plan Tool that you can use to write up your plan. No need to stress!
Want to know the single biggest reason why businesses fail? Lack of money! Surprised? We didn’t think so.
Some businesses require a lot of money to get up and running. As an example, you’d need quite a bit of money to start a restaurant. But there are other types of businesses that can get off the ground with less money. A good example might be a freelance writing business. So the amount of money that you’ll need from the start is dependent upon the type of work that you’ll be doing and the resources that you’ll need to do it right.
In terms of funding your company, your business plan (discussed above) can be helpful here as well. It should include an estimate of your startup costs, along with how much you’ll need to invest or finance.
Unfortunately, obtaining financing is often a very big hurdle that startups face. Fortunately, there are many ways to finance a small business, so you aren’t limited to just one option. That’s a relief!
- Starting a part-time business while working another job? Think about using part of your salary to fund your new venture.
- Use some of your personal savings to give your small business a nice start.
- Obtain a home equity loan to receive some much-needed funding for your startup.
- Tap into your retirement savings to move some of that money into your new company.
- Use personal credit cards, or get a credit card specifically for your business, to help with covering the costs of launching your company.
- Apply for loans or investment capital from relatives, friends, and business associates. You might be pleasantly surprised by all of the people who are willing to help.
- Apply for a bank loan, which can give you a nice chunk of money that you can use towards your business costs.
- Raise money online with the help of a crowdfunding campaign—a strategy that has become hugely popular for entrepreneurs from a wide range of industries.
When it comes to small, one-person businesses, one of the biggest mistakes that owners make is failing to maintain adequate records. Sure, keeping accurate records about your company can be a time-consuming chore, but it’s something that you just need to do.
Why are business records so important? It’s, by far, the single biggest reason that business owners lose tax deductions when they’re audited by the IRS! Ouch.
Take, for example, the thousands of business owners who’ve lost their mileage deductions as a result of failure to keep an adequate log of their business related driving. See what we mean? Keeping records is key!
Here’s the thing: if you’re ever audited, it’ll be up to you to prove that you’ve accurately reported both your income and expenses on your tax returns. An IRS auditor won’t merely take your word for it; you need clear records to back up your returns and prove their accuracy.
What’s the big deal about losing deductions? Well, it’s expensive! Depending on your income, every dollar in deductions that you end up losing could cost you about 25 to 50 cents in extra taxes. It adds up!
Side note: If you’d like to learn more, check out Your Guide to LLCs and Taxes in California.
The exact type of records that you’ll need to keep will depend on the nature of your business. No matter what, you need to have a record of some kind in order to track every penny you spend on your company, as well as every penny you take in. And, while some expenses need to be backed up with a receipt, many smaller expenses don’t require receipts.
How can you go about keeping adequate and accurate records? There’s a host of outstanding accounting software packages that can help you maintain your records. You’ve likely heard of QuickBooks, which is a popular program because it comes in several versions, such as QuickBooks Self-Employed for those running a one-person business. That’s just one example of many, so you can find the software that you like best.
Bottom line: keeping good records will help you in many ways, particularly when it comes to monitoring your progress, preparing financial statements, and preparing tax returns.
Ugh, insurance. It’s a boring topic, for sure, and it can be expensive. But it’s something that can come in very handy if something were to go wrong with your business.
Let’s say a client or customer slips and falls at your office, or your work computer is stolen. Having liability insurance in place can help protect you from business-related lawsuits, and business property insurance can protect you if equipment is destroyed, lost, or stolen. So, it’s pretty easy to see why insurance is super important.
How much, and what type, of insurance, will you need? That depends on your specific business activities. Rest assured that there are a wide variety of policies available for every type of business. And if you don’t know which form of insurance is right for you, you can contact an insurance broker who deals with businesses just like yours to get the answers, advice, and guidance that you need to make the wisest choice.
Some people will start a small business by just selling their product or service to the public. They don’t give much thought to how their business should be legally organized, and they don’t take any steps towards forming a legal business entity. In this case, they end up with the default business entities: sole proprietorship if it’s a one-person business, or partnership if the business is co-owned by multiple people.
While sole proprietorships and partnerships certainly have their good points, they do come with a major drawback: when you’re a sole proprietor or partner, you’re personally liable for all of the debts that are incurred by your business. Translation: a business creditor (a person or company to whom you owe money for items purchased by your business) can go after all of your business assets and personal assets, such as your personal bank accounts, car, and house. Plus, a personal creditor (an individual or company to whom you owe money for personal items) can go after your business assets, such as your equipment and bank accounts. Not good at all!
Beyond that, when you’re a sole proprietor or a partner, you’ll even be personally liable for business-related lawsuits. Let’s go back to our earlier example of someone slipping and falling in your office. In that instance, you can be personally sued for damages. Yikes! And it doesn’t even end there. Partners in partnerships can also be personally liable for wrongdoing by their fellow partners. Now that’s scary!
How can you avoid personal liability and the stress that comes with it? It’s surprisingly simple: form a limited liability company, also referred to as an LLC, or a corporation.
Here’s how it works:
- The LLC or corporation owns the business, including all of its assets. You, in turn, own and manage the LLC or corporation.
- LLCs and corporations can have a single owner or any number of owners.
- LLCs and corporations both provide their owners with limited liability. Business creditors can’t go after your personal assets unless you personally guarantee your business’s debts. Plus, you’ll avoid personal liability for some types of business-related lawsuits. Sweet!
Ultimately, for most small businesses, the entity of choice is the LLC. It provides the same amount of personal liability as a corporation, but it’s easier to form and run. It even provides great flexibility when it comes to taxes.
Head over to Filing an LLC in California – A Simple Step-by-Step Guide for more information if you’re thinking about starting an LLC.
Yet another big mistake that a lot of small business owners make when they’re first starting out is undercharging for their products and/or services.
You might think that charging less than your competitors will help get you more customers, but this isn’t always true. Lowballing your fees won’t necessarily generate more business. Instead, many potential clients believe that they get what they pay for, so they’re actually willing to pay more for a higher quality product or service. So don’t undercut yourself, and know your worth!
The best—and, really, the only—way to determine how to charge, and how much to charge, is by experimentation. Go ahead and try out different payment methods and fee structures with different clients or customers. See which one(s) work best for you. And, if you’re really talented and performing work of unusually high quality, don’t be afraid to ask for more than others with lesser skills. Remember: you’ve worked hard to develop your skills, so you deserve to get paid well for them!
Even when it comes to selling services, don’t be afraid to ask for more money per hour than employees earn for doing similar work. It isn’t unreasonable for a self-employed business owner to be paid a higher hourly rate than employees, as hiring firms don’t provide the self-employed with any employee benefits (think: paid time off, retirement plans, and health insurance). And hiring firms don’t have to pay payroll taxes either, so they save quite a bit of money by hiring freelancers just like you. To put all of this in perspective: employee benefits and payroll taxes add at least 20-40% to employers’ payroll costs.
Every California business must obtain a general business license. You can get this from the city where your business is located (if you’re in an unincorporated area, you’ll get it from your county instead).
Forgetting to get a business license is surprisingly easy, especially if you work from home. But doing so is definitely a mistake. In the event that your city or county finds out that you’re doing business without a license, you’ll likely be required to pay a fine, which can be much more than the original license fee. And if you fail to pay the fine and get a license, additional bad things can happen, such as your business losing the right to file lawsuits in California.
The best thing to do is get your license once your business is formed. It’s super simple, and you might even be able to do it all online. Plus, license fees vary from as little as $15 to a few hundred dollars, so you might not even have to pay much.
To access more details about this topic, read through All You Need to Know About Business Licenses in California.
Every business will have intellectual property of some type, and failing to legally protect it can prove extremely costly.
What’s intellectual property? As an example, if you use a name, logo, slogan, or similar item to identify and market your products and/or services, you have a trademark. Registering that trademark protects your ownership of it so that no one else can steal it and use it.
Register your trademarks with the United States Patent and Trademark Office. Doing so will give your trademarks the strongest legal protection possible. Failing to do so, on the other hand, will make it possible for competitors to register the same or similar trademarks, thereby potentially preventing you from using them.
But trademarks are just one form of intellectual property, as there are several others. As another example, the federal copyright law protects works of authorship, such as writings, artwork, photography, film, video, and computer software. So, if you create works like these for clients or customers, you need to have a written contract that establishes which copyright rights you’re selling to your clients/customers. And, on the other hand, if you purchase works of authorship from others, you need a written agreement that establishes which rights you’re purchasing from them. Without these types of contracts in place, you can end up in expensive disputes about copyright ownership.
Need to register valuable works of authorship to protect your intellectual property? You can do so with the United State Copyright Office.
When you establish your business as a partnership, limited liability company (LLC), or corporation, you must also set up a separate bank account for your company.
If you’re going to work as a sole proprietor, you automatically personally own all of your business assets and any money that your business earns. That’s why you aren’t legally required to open a separate business bank account. Instead, you can simply use your personal checking account for your business. But we caution against this.
Even though quite a few sole proprietors use their personal banking account for their business, it’s a mistake to do so. You should instead establish a separate account for your business, as that will serve as your basic source of information for recording your expenses and income. You can deposit all of your compensation, such as the checks you get from clients, into your account, and you can also make all business-related payments by writing checks from that account. Even if you accept payments or pay expenses through PayPal or other payment processors, having that money deposited to, and deducted from, your business checking account is smart.
Words of wisdom: don’t use your business account for personal expenses, or your personal account for business expenses. Keeping a separate business bank account will provide you with a host of benefits:
- It will be a lot easier to keep track of business income and expenses because they won’t get mixed up with your personal expenses and any other household income you might have.
- It will be very helpful if you’re ever audited by the IRS, as you’ll have everything related to your business finances in one place.
- It will help convince the IRS that you’re running a legitimate business, rather than merely engaging in a hobby (hobbyists typically don’t have separate bank accounts for their hobbies).
- It helps establish that you’re an independent contractor, not an employee (employees don’t have separate business accounts).
Makes sense, right? If you want to learn more about business banking, check out A Comprehensive Guide to Banking for New Business Owners.
Things change when you’re running your own business and you have to pay taxes. That’s because, when you’re working as an employee, your employer ordinarily withholds taxes and submits the money to the IRS. When you’re a self-employed business owner, though, no money is withheld from your pay when clients or customers pay you. Therefore, it’s up to you to pay all of the taxes that you owe.
When you’re paid for your products and/or services, set aside money that you’ll need to send to the IRS in order to cover your income tax, as well as your Social Security and Medicare taxes. If you don’t follow this strategy, you could find yourself with a big tax bill and no means to pay it. No one wants that!
Tip: If you’re self-employed, establish a separate bank account to save up for taxes. Deposit a portion of every payment you receive from customers and clients so that you’ll gain some assurance that you’ll have enough money to cover your taxes. How much you’ll need to deposit will be based upon your federal and state income tax brackets, as well as the amount of tax deductions. Depending on your income, you might need to deposit 25-50% of your profits. The good news is that, if you deposit too much, you can keep the money and spend it on other necessities.
Did you know that most contracts don’t have to be in writing in order to be legally binding? It’s true!
As an example, if you and a client enter into a contract over the phone or during a lunch meeting, no magic words need to be spoken, and nothing needs to be put in writing. You just have to agree to perform services for the client in exchange for something of value (that’s usually money).
Theoretically, an oral agreement is as valid as a 50-page contact that’s been drafted by a high-powered law firm. But, when you take things into the real world, using oral agreements is a lot like driving without wearing your seatbelt—things will work out fine as long as you don’t get into an accident.
An oral agreement can work if you and your client agree completely on its terms, and if you both obey those terms. Unfortunately, things don’t always work out, which is why courts are inundated with lawsuits that have been filed by individuals who enter into oral agreements and later disagree over what they said.
So, what does this all mean? Well, it means that you should consider drafting a written client agreement whenever you enter into a contract. This really could be your legal lifeline! If a dispute develops, your agreement will provide ways to solve the dispute. And if you and your client end up in court, that written agreement will also establish your legal duties to one another.
Our advice is this: get your agreement in writing before you start performing any work for any client. Keep in mind that this doesn’t have to be a long, fancy contract that’s been drafted by a lawyer. Instead, you can simply use a short letter agreement, or you could go with a detailed email. At the very least, just make sure that you have, in writing, what services you’ll perform, when performance will be due, and how much you’ll be paid. Easy enough!
No businessperson is an island, and no business owner knows everything. So don’t ever be afraid to seek help from an expert when you need it.
You might require assistance from the following experts:
- A CPA or enrolled agent when you have questions about taxes
- A business attorney when you aren’t sure what type of entity to form, or when you need help forming the entity you choose
- A PR and/or marketing pro when you need help getting your business in front of more people to generate a buzz and boost profits
- A bookkeeper when you need help setting up your accounting and bookkeeping system
You might be reluctant, or even ashamed, to ask for help. Don’t be! Hiring experts will be more than worthwhile to keep your business on course. And the money that you spend on good expertise could be repaid many times over because you can avoid costly mistakes along the way. Plus, the best part is that these expenses are often fully tax deductible!
When you’re setting up your business, there are a lot of things on your to-do list, from submitting the right documents to legally form your business, to writing up an operating agreement, choosing a registered agent, setting up your bank account, and getting your EIN.
Then, once your business is up and running, there are going to be more deadlines that you’ll need to adhere to in order to legally keep your business going. It can all become overwhelming, and it can also become easy to forget about papers that you need to file or taxes that you need to pay.
This is where Hyke can come in really handy. We’re freelancers, too, so we know firsthand how hard it can be to run a business all on your own—and we also know how easy it can be to make costly mistakes. That’s why we set out to help fellow freelancers avoid common errors, especially when they’re first starting out.
We created a platform that can assist you at every step, so you can focus more on making money while doing what you love. Reach out to us to learn more about how we can support your efforts at growing your unique brand.
With the freedom that comes with working for yourself comes a lot of responsibility. Using the information above, you can be proactive by doing things like writing a plan, getting the right amount of funding, protecting your assets, and keeping accurate records. Working smarter in this way can help you avoid mistakes that could cost you valuable time and money, so you can keep following your dreams of success.
Stephen has dedicated his career as an attorney and author to writing useful, authoritative and recognized guides on taxes and business law for small businesses, entrepreneurs, independent contractors, and freelancers. He is the author of over 20 books and hundreds of articles and has been quoted in The New York Times, Wall Street Journal, Chicago Tribune, and many other publications. Among his books are Deduct It! Lower Your Small Business Taxes, Working with Independent Contractors, and Working for Yourself: Law and Taxes for Independent Contractors, Freelancers & Consultants.