Creating an operating agreement is a key aspect of forming your LLC. Operating agreements are the equivalent of corporate bylaws. Their purpose is to govern how your business works. It is a document where all owners of your business get to decide how to best run the company. An operating agreement lays out the basic rules regarding the business, including management structures, each owner’s share of the company, share of profits and losses, and the responsibilities of each owner.
Make an Operating Agreement Even If It’s Technically Unnecessary
Certain states require operating agreements while others don’t. Even if your state doesn’t have a law that requires you to write an operating agreement, it’s a smart business decision to do so. By writing this document you are laying out basic policies and lines of protections regarding all owners. It clears up the limited personal liability of each owner and can reduce complications or misunderstandings from occurring in the future. Making an operating agreement is also a great idea in general so you can avoid state rules. If you don’t have an operating agreement, your business could be subjected to governance by the state’s rules for LLCs. These rules are very general and often don’t make sense for every business. An operating agreement is a way for you to decide how your business is run rather than adhering to default rules.
Protecting Limited Liability Status
An operating agreement can help maintain the limited liability status of your business. Sometimes courts may look at your assets, and your limited liability will need to be protected. Creating an operating agreement can help you in these kinds of situations. It acts as proof that your business is an LLC.
One key aspect of an operating agreement is determining how much interest percentage each co-owner is entitled to. This can be generally decided by how much each co-owner gave in contribution to starting the business. If you want to divide ownership in other ways, you could do it by how much property was contributed by a particular owner. Giving more percentage to particular owners could be a way of incentivizing their hard work. The way ownership is split is different for each LLC, as there are unique circumstances and visions for each one.
Profits and Losses
Another important aspect of an operating agreement is laying out how profits and losses are shared between the owners. Profits and losses are shared through distributive shares. This should include how much each owner is affected when the business is doing well or struggling. This section should also address when profits are distributed. You can decide to distribute profits monthly or quarterly, for instance. When deciding how profits are shared, consider that each co-owner is required to pay taxes on the company’s profits regardless of how much profit they received. Ensure that each co-owner has the means available to pay his or her fair share of taxes.
Determining Management and Responsibilities
Your operating agreement should also establish managerial structure. This will essentially lay out how your business will operate day by day. You should address the following questions:
- How will your company’s roles be defined?
- How will important decisions be made, and who will make them?
- Will the members run the LLC, or will managers run it?
- Is there going to be a board of directors?
Each operating agreement is different, but there are some aspects that tend to be essential. Along with the information above, here’s what you should likely include in your document:
- Members’ voting rights
- Rules regarding meetings and votes
- A management plan
- Buy-sell or buyout rules to decide what happens if a member sells his or her interests, experiences disability, or dies
Hopefully you have a better idea of how to create your operating agreement. Consider contacting a small business attorney if you need further assistance in crafting your document.
The content on our website is only meant to provide general information and is not legal advice. We make our best efforts to make sure the information is accurate, but we cannot guarantee it. Do not rely on the content as legal advice. For assistance with legal problems or for a legal inquiry please contact you attorney.