As a lawyer, “put it in writing” is my mantra. I believe that having written agreements is sound business practice. But it’s not illegal not to have one. Without one, you simply increase your risk of getting burned . . . exponentially. (See my article “The Single Most Important Thing to Know about Verbal Agreements“.
However, there are a small handful of areas where you cannot do business on a handshake if you want to make sure you can sue if the other side doesn’t live up to their promises. In those circumstances, it is essential that you have some form of written agreement. Otherwise, you may lose all right to recover your losses!
What are these situations and how are they relevant to small business owners?
First, a little history. These situations generally fall under an area of law known as the Statute of Frauds. It’s a holdover from old English law that was designed to prevent fraud and perjury in the courtroom (surprise?). Certain business-related transactions were far too easy to fabricate when based only on someone’s say-so. As an example, imagine Farmer John, a pig farmer, who owned a 100-acre parcel of land in colonial New Jersey. If Farmer Wesley had his eye on that land, he could readily make up a story that Farmer John had agreed to transfer the land to him. And Farmer Wesley may well have “encouraged” several others to say that they witnessed Farmer John promise he would do so. Without a written agreement, the evidence of Farmer Wesley’s many witnesses could well have been stacked up against Farmer John . . . and then innocent Farmer John would lose his land.
Scenarios like this one were common enough that people started to become concerned about the integrity of both the courtroom process as well as people’s agreements with each other. So the Statute of Frauds was developed that required a written and signed agreement in particular cases. Without it, your case would not progress far.
Fast-forward to today, most state laws provide that you must have a written agreement to recover in the following situations:
- Anything to do with real estate sales, transfer, or leasing. Learn from Farmer John. Imagine that you have a small office building to sell, and David Doofus says he will buy it from you for $1,000,000. If your agreement with David is not in writing, or if the agreement is not signed by David (or his agent), you will not be able to successfully sue David for payment. Or, if you are a real estate broker who shows an apartment to Betty Buyer, you can’t successfully sue Betty when she stiffs you on the commission if she didn’t sign a written commission agreement. Also, in some states, leases exceeding one year are also covered. And thankfully so! Can you imagine what it would be like if the landlord of your office space tried to hold you to a 20-year lease, based on her word alone?
- Sales of goods valued at $500 or more. This is another “thankfully so!” area. Who would want to get into a verbal “he said; she said” battle with someone who swears that you agreed to purchase $189,000 worth of office furnishings, when that’s your total annual budget? On the other hand, if you manufacture goods for your customers, make sure that you have written agreements (such as order forms) that customers sign so they don’t have an easy way to fleece you when time comes to pay.
- Personal guarantys and agreeing to pay for debts or obligations of another. This comes up frequently when newer businesses lease office space. A landlord may want you to be personally responsible for your company’s lease obligations. It’s no surprise: a new company is a potentially risky tenant, and the landlord wants “security,” in both senses of the word. But the landlord cannot simply “say” that you will be personally responsible; it’s something that you must agree to definitively, in writing. Should your company fail to pay the rent and the landlord try to sue, you will not be held personally responsible if you did not sign a personal guaranty. A verbal agreement to pay the debt, or meet the obligation, of someone else will not hold up in court.
- Contracts that cannot be performed within one year. Employment relationships can sometimes be loose enough to qualify. There are great risks to either side if such an agreement is not in writing. If you are the employer, you would not to be committed to pay an employee (especially a sub-performing one) a guaranteed salary for a year or more, based on the employee’s say-so. If you are the employee, you certainly would not want to be locked into a job indefinitely based on the employer’s word alone. . . for that starts to sound like slavery! On the other hand, if both employer and employee want the relationship to last for more than one year, it’s simple to make that happen: just put it in writing!
- Finder’s fees. According to the Free Dictionary (www.thefreedictionary.com) a finder’s fee is a “fee paid to the finder of financial backing for a venture or to a party that brings the principals in a venture together.” So imagine if a colleague, Charles, owns his own specialty chocolate shop, which he is looking to sell. Charles promises to pay you a finder’s fee based on a percentage (let’s say 1%) of the money he receives if you introduce him to the buyer. It just so happens that the wife of your dear college roommate is a bigwig at Godiva Chocolates, so you make the introduction. Godiva ends up buying Charles’s business for the tidy sum of $25 million. Where’s your $250,000 finder’s fee? If it wasn’t in writing, Charles can chuck you over. Although, if you were in Charles’s situation, you wouldn’t certainly want any old “Tim, Dick, or Harry” demanding a huge sum of money for a business opportunity, now would you?
These are just five examples of situations where you can be denied your day in court for not having a written agreement. Each state has its own version of the Statute of Frauds, so it’s a good idea to check with a lawyer in your home state as to exactly what’s covered. But why leave your handshake agreement to chance? When in doubt, get it in writing!