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Understanding An LLC Operating Agreement

  • How an operating agreement can assist with the management of a Limited Liability Company
  • For those looking forward to starting their company as an LLC
  • Helps govern internal operations of the business in a way that suits the specific needs of the business owners

Limited liability companies (LLCs) are a popular way for entrepreneurs to structure a company, offering some of the same protections corporations enjoy but avoiding some of the more stringent requirements. If you’re establishing an LLC with partners, however, taking a more casual approach can easily lead to disagreements.

An LLC operating agreement helps settle any disputes by establishing the financial and working relations among business owners (“members”). Few states require companies to include this agreement when establishing an LLC, but it is a useful way to address issues such as decision-making, profit sharing, and each member’s duties and obligations. If an operating agreement is not in place, the business is run based on state rules – which are typically more general and not as useful as a customized agreement.

The operating agreement creates a layout of each member’s duties, responsibilities, and powers. It also establishes the ownership share of each member. You may simply divide ownership evenly, but you can also adjust it based on factors such as whether certain members have invested more money or taken on additional duties.

Profit sharing is typically done along the same percentages as the ownership shares, although this can also be modified if members decide an alternate distribution is appropriate. The document will also establish whether profits will be distributed at intervals or if members can draw on profits at will.

An LLC operating agreement should also outline how company decisions are made. You may decide that one person has the sole decision-making authority, or that certain decisions will be made by managers while others will be done by vote. LLCs often divide voting power based on ownership share, with those with a greater stake having a greater say, but a “one person one vote” model can also be used. The agreement should also spell out whether a majority vote is sufficient or if a unanimous decision is necessary.

The agreement provides guidance for some difficult decisions as well. In particular, it should establish what happens to a member’s duties and ownership share if they quit, die, or are asked by other members to leave the company. It can also spell out the process for closing the company and dissolving the LLC.

Some agreements work in other documents that members must sign. These can include things like non-compete and non-disclosure agreements.

An LLC operating agreement is most useful if it is in place when the company is founded. However, it can still be helpful if established after the business is already up and running. You should also treat the agreement as a living document, occasionally modifying it with help from an attorney to account for changes in the company.

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