Last updated: October 2026
Most of what goes wrong in a startup’s first year is invisible until a financing or an acquisition, and by then it is expensive. A co-founder leaves holding fully vested shares. Nobody filed an 83(b) election within thirty days. The product was built before anyone assigned the intellectual property to the company. The cap table does not reconcile. Bay Legal, P.C. advises California founders on the decisions that are cheap to get right at the start and costly to fix in diligence.
Definition: Startup counsel is legal advice on entity structure, founder equity, intellectual property ownership, and early financing for a company intending to raise outside investment.
What structure does a startup need?
If you intend to raise institutional capital, a corporation. Venture investors buy preferred stock, and an S corporation may have only one class of stock while an LLC cannot issue stock at all. Founders who expect a priced round within a year or two are generally better off incorporating at the outset than converting under time pressure during a financing.
If you do not intend to raise, an LLC is usually simpler and cheaper, and startups are not only technology companies — the same questions arise for a consumer brand, a services business, or a healthcare venture, though a licensed professional practice has its own constraints.
The Delaware question comes up early. A Delaware corporation doing business in California must register here and pays the California $800 minimum under Revenue and Taxation Code section 23153 on top of Delaware’s fees. It is worth the duplication for companies raising institutional money, because investors and their counsel expect Delaware law and standard documents. For a company that will not raise, it is a recurring cost with no return.
How should founders split and vest equity?
The split is a business decision. The vesting is the legal one, and it is the provision that protects the company from its own founders.
Unvested founder stock is the standard arrangement for a reason: without it, a co-founder who leaves after four months keeps their entire stake, contributes nothing further, and sits on the cap table for the life of the company. Investors will require vesting if it is not already in place, and imposing it later is a negotiation nobody enjoys. The conventional structure is four years with a one-year cliff, though the right shape depends on what each founder is contributing and when.
Related provisions that belong in the same documents: a right of first refusal on transfers, so shares cannot be sold to an outsider; restrictions on transfer generally; and an acceleration provision addressing what happens on a change of control. None of these is contentious at formation. All of them are contentious later.
What is the 83(b) election, and why is the deadline absolute?
When a founder receives stock subject to vesting, the default tax treatment is to recognise income as the shares vest, at the value on each vesting date. For a company that succeeds, that means paying tax on rising value over four years on shares the founder cannot sell. An election under section 83(b) of the Internal Revenue Code reverses that: the founder elects to be taxed at grant, when the shares are typically worth very little, and pays nothing further as they vest. The Internal Revenue Service publishes the filing requirements.
The deadline is thirty days from the date of grant. It is not extendable, it is not curable, and the consequences of missing it are borne entirely by the founder. This is the single most common and most expensive administrative failure in early-stage companies, and it happens because the shares felt worthless at the time and nobody thought a filing mattered.
Who owns the intellectual property?
Not the company, unless someone assigned it. This surprises founders, and it surfaces in diligence rather than before.
Work created by a founder before incorporation belongs to the founder personally. Work created by an unpaid collaborator belongs to them. Work by a contractor belongs to the contractor unless the agreement assigns it, and a general “work made for hire” recital does not reliably transfer everything in every category. Every founder, employee, and contractor needs a signed assignment of inventions and intellectual property, and founders need one covering work done before the company existed.
California adds a wrinkle for employees. Labor Code section 2870 limits the scope of an invention assignment: an agreement cannot require an employee to assign inventions developed entirely on their own time without company equipment, unless the invention relates to the employer’s business or results from work performed for the employer. An assignment drafted for another state may overreach and be unenforceable here.
Trade mark and domain clearance belongs in the same early conversation. A company that raises money under a name it cannot own has an expensive problem.
How do early financings work?
Most first money is not a priced round. It arrives as a convertible instrument — a SAFE or a convertible note — which defers the valuation question until a later financing. The economics turn on the valuation cap, the discount, and what happens if no priced round ever occurs.
Two points founders consistently underestimate. Convertible instruments dilute, and stacking several at different caps can produce far more dilution at conversion than the founders modelled. And every issuance of securities, including to friends, family, and founders themselves, must fit a securities exemption at both federal and state level. Issuing without one is a violation regardless of how informal the arrangement felt.
An option pool is the other early decision. Investors typically require one, and whether it is created before or after the investment materially changes who is diluted by it — a point worth understanding before the term sheet rather than during it.
What does cap table hygiene actually mean?
- Issue shares properly. Board authorisation, a subscription or purchase agreement, and a recorded issuance. A verbal promise of ten percent is not a share issuance.
- Keep a stock ledger contemporaneously. Reconstructing three years of issuances during diligence is expensive and rarely produces a clean answer.
- Document every convertible instrument with its cap, discount, and conversion terms, and model the fully diluted position.
- Track option grants with grant dates, strike prices, and vesting schedules, and confirm the plan authorises what has been promised.
- File the securities exemption notices that apply to each issuance, at both federal and California level.
Diligence does not usually kill a deal outright. What it does is delay closing and shift leverage, and a disorganised cap table is among the most common reasons.
Who advises startups at Bay Legal?
Managing attorney Jayson R. Elliott leads the firm’s business practice, covering entity structure, founder documents, equity, and early financing. Where a dispute arises between founders or with an investor, it moves to the litigation group under lead litigation attorney Evan Livingstone.
The firm does not provide accounting or tax filing services and works alongside the client’s CPA on the 83(b) election and related tax questions. Bay Legal, P.C. serves founders statewide from offices in Palo Alto and Los Angeles, including across San Francisco and the wider Bay Area.
Frequently Asked Questions
Should my startup be an LLC or a corporation?
A corporation if you intend to raise institutional capital, because venture investors buy preferred stock and an LLC cannot issue stock. An S corporation cannot help either, since it is limited to one class of stock. If you do not intend to raise, an LLC is simpler and cheaper. Founders expecting a round within a year or two should generally incorporate at the outset.
What is an 83(b) election and when is it due?
An election to be taxed on restricted stock at grant rather than as it vests, which for a founder whose shares are worth very little at formation usually means paying almost no tax at all. It must be filed within thirty days of the grant date. The deadline is not extendable and cannot be cured, and missing it is the most expensive routine mistake founders make.
Why do founders need vesting on their own shares?
Because without it, a co-founder who leaves after a few months keeps their entire stake and sits on the cap table permanently. Vesting protects the founders who stay. Investors will require it if it is not already in place, and imposing it later is a negotiation nobody enjoys. Four years with a one-year cliff is conventional.
Does my company own the IP if I built the product myself?
Not automatically. Work created before incorporation belongs to you personally until assigned, and work by contractors belongs to them unless the agreement assigns it. Every founder, employee, and contractor needs a signed invention assignment. California’s Labor Code section 2870 limits how far an employee assignment can reach.
What is a SAFE, and how is it different from a priced round?
A convertible instrument that defers the valuation question to a later financing, converting into equity on defined terms. The economics turn on the valuation cap, the discount, and what happens if no priced round occurs. Stacking several at different caps can produce far more dilution at conversion than founders expect.
Do I need to worry about securities law when friends invest?
Yes. Every issuance of securities must fit an exemption at both federal and California level, including issuances to friends, family, and the founders themselves. Informality does not create an exception, and the exemption filings are inexpensive compared with the consequences of having issued without one.
Related Questions
When should a startup hire a lawyer?
Before issuing founder shares. Almost every expensive early problem — vesting, 83(b), IP assignment, the cap table — arises from decisions made in the first weeks, and all of them are cheap to get right and costly to unwind.
What is a valuation cap?
A ceiling on the valuation at which a convertible instrument converts into equity, protecting the early investor from being diluted by a high priced round. It is usually the most negotiated term in a SAFE.
Should I create the option pool before or after investment?
It materially changes who bears the dilution. Investors typically want it created pre-money, which dilutes the founders rather than the incoming investor. It is worth understanding before the term sheet.
Can I use a template SAFE?
Standard forms exist and are widely used, which is a genuine advantage. The terms that get filled in — cap, discount, pro rata rights — are where the negotiation lives, and those are worth advice even on a standard form.
Talk to a California startup attorney
The cheapest hour of startup legal work is the one before founder shares are issued. To discuss structure, equity, or an early financing with a Bay Legal attorney, call the office nearest you or email intake.
Bay Legal, P.C. — serving California statewide
Northern California office
667 Lytton Ave Ste 3, Palo Alto, CA 94301
(650) 668-8000
Southern California office
3211 Cahuenga Blvd W Ste 212, Los Angeles, CA 90068
(213) 668-8000
Intake: intake@baylegal.com
Fax: (650) 963-0041
Website: https://baylegal.com
This page is general information about California law and does not constitute legal advice or create an attorney-client relationship. Bay Legal, P.C. does not provide tax advice. For advice on your specific situation, contact a licensed California attorney and a qualified tax professional.