What Is an Operating Agreement?

An operating agreement functions as a limited liability company's internal document that indicates the rules and regulations for running the business. The operating agreement can be a written document or an oral agreement between the members of the business. LLCs have an obligation to keep an operating agreement at the principal business location.

Profits

An LLC's operating agreement can indicate how the company will split profits and losses among the members of the business. LLC members may decide to divide profits and losses in any manner or by membership interest in the business. For instance, a member may own 20 percent of the company, but the other members may elect to give her 25 percent of the company's profits. The operating agreement may contain information regarding each member's ownership interest in the business. The members of an LLC can change how the company allocates profits at any time by amending the existing operating agreement.

Management

The management structure of the LLC must appear in the company's operating agreement. The members of the company can elect to run the business, or a combination of members and nonmembers may be appointed to manage the company's daily affairs. The roles and responsibilities of the LLC's members should be mentioned if the members of the business manage the company's affairs. The duties of the LLC's managers have to be explained in the operating agreement if nonmembers and members are appointed as managers of the business.

Significance

An operating agreement is vital to the limited liability status of a single-member LLC. Without a written operating agreement in place, a single-member LLC may look very similar to a sole proprietorship in the eyes of the courts. This means the business owner may have personal liability for all company obligations and debts. Furthermore, having a written operating agreement will help an LLC override the default rules in the state where the business was formed. For instance, members of an LLC may have to divide profits according to membership interest in the business unless a written operating agreement stipulates how the company will divide profits.

Considerations

Having a written operating agreement in place will help the members and managers of an LLC avoid disputes regarding operational matters. The operating agreement may communicate other vital information such as the voting rights of the company's members, as well as the time and place where company meetings take place. It is vital that the operating agreement contain provisions for admitting new members and procedures for buying out a departing member. In the event of a member's death or retirement, an LLC may end automatically unless the operating agreement includes information for continuing the business.