Table of Contents
- LLC and Operating Agreement Definition
- Operating Agreement v Partnership Agreement
- What Should Operating Agreements Include
- General Sections
- Possible Other Sections
- NEVER Use Free Operating Agreement Templates
- Operating Agreement Attorney
LLC and Operating Agreement Definition
Limited Liability Companies (LLC) were invented in the early 1980s as an attempt to combine the pass-through tax benefits of a sole proprietorship/partnership with the liability protection of a Corporation.
Like a corporation, this structure is actually setting up a legal entity that can own assets and incur liabilities just like a living person. This legal distinction allows the owners (called members) to own the assets and incur any debt in the name of the LLC, making the LLC liable for the debt and judgments, not the owners. Because it is a legal entity, members can be interchanged (if allowed by agreement) without dissolution of the company, unlike partnerships in several states where if a partner leaves or dies a new partnership must be created.
But it also allows the members to file their portion of profits on their personal tax return like a solo or partnership that are pass-through tax structures, but also provide the corporate veil protections of liabilities of the company to the members’ personal assets.
The operating agreement is an agreement between the members (even if a single-member LLC) so when you ask what should operating agreements include, they should include the information to set out the plans of who the members are, how the LLC will operate, and how things (mainly problems) will be handled if they arise. While no state requires the operating agreement to be filed with the state, most require an operating agreement to be in the records of the company ready to be shown at a moment’s notice.
Since the agreement is not filed, it is not necessary to get the signatures notarized; but every state requires the agreement to be in writing or typed and signed by all the members.
Operating Agreement v Partnership Agreement
Partnership agreements are between the owners of a partnership while operating agreements are between members of a limited liability company. Partnership agreements and operating agreements are very similar in their purpose, but operating agreements are usually much more detailed.
While both will include information about the relationship between owners and owners and the LLC, the operating agreement is also trying to establish and maintain the corporate veil/limited liability aspect of LLCs that protects the members.
This agreement is a legal document, which must comply with the state laws but may overwrite state default laws if they are not required laws. Each state has different laws about what is required to be in the agreement, so it is best to check with your state’s Secretary of State to see what is required laws and what is default but overridable rules.
What Should Operating Agreements Include
General Sections
- Name of Limited Liability Company- make sure the name you want to use is available by looking at your Secretary of State’s website. Also, you must include at the end of the name LLC.
- Location- what states will the LLC be registered (domicile=home state, foreign=other states registered in), physical and mailing addresses of principal office, secondary locations of business
- Management style- LLCs come in two management styles: member-managed where one or more members manage the day-to-day decisions, and manager-managed where at least one manager will be hired for the day-to-day operations.
- Registered Agent- name and address of the person or business authorized to receive legal process and correspondence. Must be available weekdays during normal business hours.
- Term of LLC- most LLCs are listed as perpetual (undefined) but a few are set up to have a specific term length.
- Member information- make sure to name each member, percentage of ownership, and contributions to gain shares, allocation of profits, responsibilities, and authorities.
- Business purpose- define what the LLC will do, including what products or services it will offer.
- Tax structure- LLCs can choose to be taxed as a sole proprietor if single-member or partnership if multi-member or can be taxed as an S-Corp or C-Corp when applying for EIN.
- Governing law- which state’s law will govern any judicial disputes that arise under the operating agreement. (almost always domicile state)
- Standard of Conduct and Conflict of Interest Policies for members
- Future decisions- what type of decision must be voted on and what percentage of votes are required to pass (majority, supermajority, unanimous), and what are under the management of day-to-day.
- Transferable interest- if, when, to who, and how members can transfer some or all of their interest in LLC, also how and if new members can be added, plus how the death of a member will be handled
- Dissolution- how and when there will be a total dissolution of the LLC.
- How the process must be executed to make amendments to the partnership agreement.
Possible Other Sections
Some types of industries the LLC could be involved in can require more sections to be considered if needed to be included:
- Indemnification- if a member does something willful or wanton, the LLC could hold that member liable beyond the limited liability afforded them by this structure.
- Non-compete clause- when a member leaves the LLC, they are restricted from competing with the still existing LLC for a specified time or in a specified area.
- Non-disclosure- this restricts the members, current or former, from disclosing proprietary information about the business’s products, processes, or formulas
- Non-solicitation- this restricts the former member from soliciting employees, customers, or other people or businesses (ex-suppliers) under contracts with the original company.
- Mediation/Arbitration- this requires all disputes to be either mediated prior to legal actions being taken or mandatory arbitration instead of legal actions to resolve the dispute between members or between members and the LLC.
Every LLC must have a written operating agreement to make sure that as many as possible situations that could affect the members of the LLC are covered ahead of time. Also, the agreement should be reviewed at least annually to make sure no changes need to be voted on.
🙅♀️NEVER🙅♂️ Use Free Operating Agreement Templates
Operating agreements are very detail-oriented to specific situations like the type of industry, state of filing laws, member needs, etc. I know it could be very tempting but often will cost you more later to fix than to do right the first time. Please use any templates you might find as conversation starters or research.
Operating Agreement Attorney
If you arestill asking “what should operating agreements include” and unable to do it yourself, hire a qualified business attorney who will be familiar with industry needs, state requirements, and questions to ask about member needs you might not think of to help you.
Disclaimer: This article is intended to be an introduction to operating agreements and not as a complete, end-all template. As I do not know your exact situation, I am not intending to give tax or legal advice. While I am an attorney, I am not your attorney and no attorney/client relation has been created by this article. I highly advise you to speak with legal or tax professionals who can help you with your specifics for your operating agreement if this is the business structure you choose.