A limited liability company’s operating agreement is the equivalent of a corporation’s bylaws. Unlike bylaws, however, an LLC’s operating agreement is much more flexible, and isn’t even required by most states. Nonetheless, it’s generally a good idea to create an operating agreement, even if you’re the sole owner of the company.
Override State Default Rules
Only a few states, such as New York, Delaware and Missouri require an LLC to have an operating agreement. No states require an LLC’s operating agreement to be filed with the state. Writing an operating agreement, however, allows the company to override default rules set in all state regulations for how an LLC can be organized. It also helps prevent or settle disputes that may arise down the road.
Define Management Structure
LLC owners are called members. Many states assume by default that all members have equal participation in running the business. Under default rules, any profit the company makes is allocated evenly between members and subject to self-employment tax. Through an operating agreement, members can agree to assign unequal percentages of interest each member has in an LLC based on her investment and duties.
Assign Voting Powers
Rather than have the default “one member, one vote” control of the LLC, use the operating agreement to assign the weight of each member’s vote to reflect the member’s percentage of ownership. The agreement also should specify what issues must be voted on by the members, such as hiring a manager to run the company, or assigning specific duties to member managers. The agreement also can spell out rules for holding meetings of the members.
Detail Financial Practices
An operating agreement should define the practices the LLC will employ to handle finances. Rather than the default rule that any member can write a check from the account, the agreement can give that authority to one member, or require checks to have two signatures for better security. This section of the agreement also can govern what portion of any profit can be distributed to members and how much should be held in the LLC’s reserves. Setting down the financial practices, especially for a single-member LLC, helps separate personal finances from the company’s to ensure the personal liability protection remains in place if it is ever challenged in court.
Set Buy-Out, Dissolution Procedures
It’s vital for an operating agreement to document the procedure that will be used to buy out a member who wishes to leave the LLC, how a member can sell her interest to another member, or how to accept new members. The agreement also should address the consequences and procedures to follow if a member dies or becomes disabled, and how to dissolve the LLC should that become necessary.
Sign and File the Agreement
All LLC members should vote on operating agreement, and all should sign the document once approved. File the agreement with the company records. There is no requirement to file it with the state, but it must be dated to clearly show when the agreement took effect. Any amendments to the agreement should also be voted on and signed by all members current when an amendment is proposed.
- George Doyle/Stockbyte/Getty Images