The Operating Agreement (OA) is an agreement prepared to govern the business relationship between members of the LLC.  The OA is similar to by-laws in a corporation and acts as the constitution of the company through which members’ rights and duties are defined.  The OA outlines each member’s role, right, duty and entitlement; this includes membership interest, capital accounts, distribution of profit and allocation liabilities and tax responsibility.  This important document contains critical rules not only on how to run the daily operation of the company, but also to allocate distribution, voting, admission of new members, dissolution, etc.  This agreement also operates as evidence as to the intentions of members to operate as a separate legal entity and minimize personal liability.

The OA is a document that is tailored to its members’ wishes and structured in a way to accomplish said business wishes.  In the event the OA fails to include certain clauses or members did not clear certain points, the state statute may operate to fill the gap in these areas.  It is important for the preparer of the OA to have a long and detailed discussion with all members to make sure the agreement represents the members wishes and reflects their understanding.

What to include in your OA?

Management

The business affairs of the company can be managed by one or two managers. The manager can also be an officer.   The manager(s) normally in charge of the daily operation of the business. The authority of the manager is determined in the OA and by follow up resolutions.  The manager(s)’ duties can be restrictive and can offer the liberty of the manager to freely manage the daily operation of the LLC, even to bind the LLC with loans and other liabilities.

Classes of membership

Classes of members can be voting, non-voting and or economic interest member.   The agreement represents the understanding of the parties and their contribution to the newly formed LLC. For instance, voting members may contribute equal capital.  At the same time, a member may contribute the same amount of capital but cannot vote.  Also, an economic interest member enjoys the profit of the LLC but not the operation, voting or any decision-making role.

Capitalization and additional contribution

Funding your LLC is not only necessary to conduct your business but it is also important to minimize the exposure of personal liability.  If the LLC is undercapitalized, creditors may be able to pierce the corporate veil to hold a member personally liable for the LLC debts.

Meetings

The more communication between members the better the operation and the success of the LLC. Members are encouraged to have a board meeting at least once a year to make decision and to make sure the LLC is going in the direction they planned.

Voting majority/ super majority/deadlock

Voting is how decisions are made. There are two popular types of voting in the LLC. Majority and super majority. Majority voting is normally over 51% of the membership interests and super majority constitutes 2/3 tow third, normally 67% of all membership interests.  Although members can choose to have an unanimously vote to make a decision, it is highly not recommended.

New Members Admission

In this section the LLC members can state the restrictions and the conditions, if any, for the admission of new members.

Transfer

The member ability to transfer his/her membership interest depends on what is agreed upon or stated in the LLC.  Transfer to an immediate family member is customary; transfer to a third party has more restrictions as the members state in the operating agreement.

Death of a member

It is prudent on the part of the members to think about this possibility.  What happened to the deceased membership interest in the event of death? Does the interest go to the deceased estate, family member, or the other members has the right of first refusal? Planning saves time, energy and money.

Distribution

So the LLC is in business and making money, when do members get paid part of the profit? Distribution should be had at least once a year. Distribution is based on the percentages of the ownership of each member.

Dissolution

For many obvious reasons, the members of the LLC may decide it is in the best interest of all to dissolve the LLC. In this case, the decision of the dissolution should be undertaken as per the voting agreement in the LLC.  If the voting is met and decision is made, the members can appoint a member or ask the manager to oversee the dissolution process of the LLC.

The world of the LLC is complicated and each OA is tailored to the need of said LLC. There are many issues that are not covered in this article that are as important. The foregoing is to provide a brief understanding of the OA. For specific case or question, please consult with a business lawyer.

Disclaimer.  Nothing in relation to the enclosed information should be construed and or considered as legal advice for any individual, entity, case, or situation.  The following information is prepared for advertisement use only.  The information is intended ONLY to be general and should not be relied upon for any specific situation. For legal advice on your specific situation, we encourage you to consult an attorney experienced in the area of Business Law.