1. Ownership Interest in LLC
2. Operating Agreement
3. Management Structure
4. State Default Laws
5. Operating Agreement Basics

Ownership Interest in LLC

An ownership interest in LLC means that a member has a proportionate stake in the business. The LLC is a popular business entity choice among small business owners, but LLC ownership can get tricky because there are tax differences when it comes to sole and multiple-owner LLCs. An LLC is created through filing an articles of organization document with the secretary of state of your respective state.

For instance, a Texas-based LLC is created through what’s called a certificate of formation with the secretary of state, and an Arizona LLC is created with the articles of organization filing at the Corporation Commission. Such documents must include the members of the LLC, including whether the business will be member-managed or manager-managed. For member-managed LLCs, owners must participate in the daily operations of the LLCs, and manager-managed LLCs appoint managers to run the daily business affairs.

When creating an LLC, owners should decide on certain important matters regarding members, such as membership types and capital contribution amounts required of all owners. In addition, you must consider other important matters in the form of:

  • Allocation of profit and losses
  • Voting procedures and rights
  • Ownership transfer restrictions

Operating Agreement

LLC owner decisions must be included in an operating agreement. An operating agreement establishes the rules and operating procedures of your business, while detailing working relationships between co-members and managers. Most state laws do not mandate an operating agreement, but you should draft one as a precaution, even if you are the sole owner of an LLC. Moreover, you should also ensure that an operating agreement is in writing rather than stated orally.

An operating agreement will benefit you in the following areas:

  • Safeguard your limited liability status
  • Preventing financial and/or management conflicts
  • Ensure your business governed by your rules alone and not default laws of your state

If are a sole-owner LLC, you should draft an operating agreement that mentions distributions, profit/losses, and your ownership status. The main reason to draft an operating agreement is to make sure that the courts honor your personal limited liability protections, which is especially important in a sole-owner LLC, where you could resemble a sole proprietorship if you do not have an agreement in place.

Moreover, operating agreements give your organization greater credibility and adds more separation between yourself and the business.

Management Structure

Co-owned LLCs must detail profit distribution and decision-making parameters, including other procedures in regards to the addition and loss of members. With no operating agreement, you and your co-members will be ill-prepared to settle miscommunications over management and finances. Further, the LLC will fall under default operating laws of your state, which may go against the best interests of yourself and other members.

State Default Laws

All states have differing laws that create basic operating parameters for LLCs, and some will govern your LLC unless an operating agreement states otherwise. For instance, many states have a default guideline that mandates owners to divide LLC losses and profits equally, regardless of member contributions to the business.

If you and your co-members never invested equal shares in the business, you wouldn’t want all profits divided equally. To avoid such a scenario, you must create an operating agreement that details how losses and profits would be divided among members. An operating agreement allows you to choose your own rules rather than being governed by state rules.

Operating Agreement Basics

Regardless of how you tailor your operating agreement, it should include the following pieces of information:

  • Percentage shares of each member
  • Member rights and responsibilities
  • Voting power of each member
  • Loss and profit allocation
  • How the business will be managed
  • Rules on meetings and voting structure
  • Buy or sell-out parameters
  • Emergency provisions, such as when a member dies or becomes unable to participate in the business

When it comes to capital contribution amounts, certain states have various mandates on LLC operating agreements that may determine how capital contributions are issued. If you encounter such a scenario, consult an attorney to get more information on how to proceed. When it comes to allocations, you may also want to hire an accountant to ensure that the process runs smoothly.

To find out more on an ownership interest in LLC, submit your legal inquiry to our UpCounsel marketplace. UpCounsel’s attorneys will give you more insight on how to allocate your ownership interest among other members, and how to draft a sound operating agreement that all parties can agree to. Also, they will provide more information on the basics of the LLC creation process, including whether other business entities would be the right fit for your business.