Top 5 Legal Mistakes Startup Founders Must Avoid

Startups move fast — and sometimes, legal matters get deprioritized. But ignoring legal foundations early on can lead to expensive, messy problems down the road. Whether you're just forming your startup or gearing up for your next funding round, these are five of the most common (and costly) legal mistakes founders make — and how to avoid them.

Some mistakes are harder (or impossible) to reverse. Here’s what to watch for.

1. Choosing the Wrong Entity Type

Mistake: Setting up your startup as an S-Corp or LLC when you plan to raise venture capital.

For tech startups aiming for high growth, a C-Corporation is almost always the right structure. Why? Because C-Corps are required to qualify for the Qualified Small Business Stock (QSBS) exclusion — a potential $10M tax break when you sell your company.

Once you’ve issued stock under an S-Corp structure, that equity can’t later qualify as QSBS — even if you convert to a C-Corp. It’s a painful, permanent oversight. LLCs offer more flexibility and can be converted to C-Corps later, but conversions come with costs and complexity.

If venture funding is in your future, start with a C-Corp to avoid leaving millions on the table.

Learn more about QSBS benefits here.

2. Failing to Issue Equity Properly

Mistake: Not issuing stock to founders or early team members correctly at incorporation.

We've seen companies raise funding without having actually issued stock to founders. Or they assume an offer letter promising equity is enough. It’s not.

To properly issue equity:

• The board must approve the issuance.
• Stock must be issued at fair market value.
• Proper legal agreements must be signed.

Skipping these steps can lead to huge tax consequences if the company becomes valuable — founders may owe taxes on hundreds of thousands in “phantom income.”

Key takeaway: DIY incorporations often skip these steps. Work with a startup attorney to get equity done right the first time.

3. Missing the 83(b) Election Window

Mistake: Forgetting to file an 83(b) election within 30 days of receiving vesting stock.

If your stock is subject to vesting — which it usually is — failing to file an 83(b) election means you’ll owe income tax every time shares vest, based on their current value. That value could skyrocket if you raise money, resulting in a surprise tax bill.

Filing an 83(b) lets you lock in the value for tax purposes on day one — when it’s usually worth pennies.

Warning: There is no way to file late. Missing this window is an irreversible mistake that creates major tax and diligence problems.

Here’s a helpful explainer on fixing 83(b) elections.

4. Not Having IP Assignment Agreements in Place

Mistake: Letting employees, founders, or contractors build core technology without assigning it to the company.

Without signed intellectual property (IP) assignment agreements, your startup may not legally own the tech it’s built — which can kill acquisition deals or funding opportunities.

This happens more often than you'd think, especially with offshore developers or early contractors. Fixing it later? Costly and risky — and sometimes impossible if you can’t track someone down or they won’t cooperate.

Pro tip: Every team member who touches your product should sign an IP assignment agreement from day one.

Explore our guide to protecting your startup’s IP.

5. Signing Overly Restrictive Agreements

Mistake: Agreeing to exclusive licenses or long-term contracts that limit your future options.

Early on, it’s tempting to lock in a big customer or favorable vendor — but exclusive agreements can scare off investors and cripple your ability to scale.

Sometimes companies agree to exclusivity terms that effectively make them a vendor for one customer, not a scalable tech company. Similarly, signing a long-term office lease or vendor deal can make your company unattractive for acquisition.

What to do instead: If exclusivity is necessary, make it time-limited or narrowly defined — and always build in exit clauses.

It’s important to ensure you have IP assignment agreements in place.

Final Thoughts: Legal Issues Are Fixable — But Prevention Is More Cost Effective

Most legal mistakes can be cleaned up, but the cost (in dollars, time, and tax hits) goes up the longer you wait.

That’s why at SPZ Legal, we partner with startups at the earliest stages — to help founders like you build a legal foundation that supports fast growth, future investment, and long-term success.

Whether you’re structuring your company, issuing equity, or preparing for a fundraising round, our team of startup attorneys is here to help.

Schedule a free consult with SPZ Legal to make sure your legal strategy keeps pace with your vision.

Key Takeaways

• C-Corp > S-Corp if you want QSBS benefits and VC funding.
• Equity must be formally issued — offer letters alone aren't enough.
• You have 30 days to file an 83(b). No exceptions.
• IP must be assigned to your company — or you might not own your core product.
• Avoid exclusive deals that limit your flexibility and future growth.