What Is LLC Operating Agreement: Everything You Need to Know
An LLC operating agreement creates the terms that the company will follow regarding oversight, governing, and long-term operations.3 min read
What is LLC Operating Agreement? An LLC Operating Agreement is a contract between the members of an LLC. The agreement creates the terms that the company will follow regarding oversight, governing, and long-term operations.
What Is an LLC Operating Agreement?
An LLC Operating Agreement is considered to be the most significant document that the LLC will create because it establishes the framework and roles of the business. More specifically, this agreement outlines the working and financial relationships among the managers and members of the company.
The agreement identifies the rules agreed to by all members of the LLC. In order to protect the members, it's important to include as many contingencies as possible in the agreement. The daily responsibilities of managers and members should also be identified in the agreement.
The circumstances and people behind the LLC are different in every situation, therefore the Operating Agreement is unique to the business. The amount of details to include in an Operating Agreement may depend on the:
- Structure of management
- Number of members
- Tax considerations
- Sharing of the profits
An Operating Agreement for an LLC may also be known as an:
- Operating Agreement
- Operating Agreement LLC
- LLC Agreement
- LLC Partnership Agreement
- Operating Agreement for LLC
An Operating Agreement does not need to filed with any governmental department; instead it should be kept with the records of the business. Also, when any major event occurs within the LLC, such as losing or adding a member, it's recommended to consider reviewing and/or updating the agreement.
Why You Should Have an Operating Agreement
An Operating Agreement controls your LLC, rather than a governmental agency. If an agreement does not exist, state law will end up governing the countless aspects of the business. The bottom line is that if your LLC doesn't create an Operating Agreement, the state will create one on your behalf. For example, many states will force members to share profits equally among members, regardless of the capital contributed.
In order to claim limited liability, the Operating Agreement should provide proof that the company is an LLC. If an Operating Agreement doesn't exist, and the company appears to be a partnership or sole proprietorship, it may lose its limited liability status. Also, a written Operating Agreement signed by all members, may help to minimize any future disputes or misunderstandings.
LLC Operating Agreement Variations
An LLC with only one member will most likely have a simpler Operating Agreement than a multiple member LLC. A single member LLC has the option to be taxed as either a corporation or a sole proprietorship. A multiple member LLC has the option to be taxed as either a corporation or a partnership. An LLC can be organized so that the daily operations of the business are either managed by the members or employees.
LLC Operating Agreement Provisions
An Operating Agreement usually consists of six sections or articles.
Article I: Organization
- How and when the company was created
- Who are the members of the LLC
- The ownership arrangement
Article II: Management and Voting
- How the members manage the organization
- The level of authority that members have regarding company affairs
- How the voting process takes place
- The number or percentage of votes needed to take action
Article III: Capital Contributions
- The amount of capital contributed from each member
- The amount of future capital expected from each member
- The ratio of capital to ownership units or percentages of the company
Article IV: Distributions
- How losses and profits are distributed among members
Article V: Membership Changes
- The protocol for removing or adding members
- The process for transferring ownership
Article VI: Dissolution
- The circumstances that must take place for the company to be dissolved
Are LLC Operating Agreements Required?
An Operating Agreement may not be required in your state, but all states do require an Articles of Organization. Typical requirements include the:
- Name of the LLC
- Principal place of business
- Management type
An LLC may be requested to provide their Partnership and Operating Agreements to the IRS if their businesses ever comes under audit. The states below require an LLC to have an Operating Agreement:
- New York
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