Limited liability companies, or LLCs, are governed by state legislation. As of 2010, many states did not require LLCs to create operating agreements. Even when an operating agreement is not required, however, it can help prevent disputes from arising, and can help to resolve them when they do arise. An operating agreement can also prevent state default rules from deciding the terms of the relationships among the members.
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Since LLCs are governed by state legislation, LLC operating agreements must comply with state restrictions, and these restrictions vary from state to state. If a state, for example, requires the unanimous consent of members before dissolution will be permitted, any provision to the contrary in an operating agreement will not be enforceable. State law also contains default provisions that kick in only if the LLC has no operating agreement, or if the operating agreement is silent on an issue addressed by a default provision. For example, many states require that profits and losses be equally divided among members in the absence of an operating agreement provision to the contrary, according to the FindLaw website. Accordingly, obtain a copy of your state's LLC legislation before drafting an operating agreement.
An LLC operating agreement should detail procedures and requirements for admitting new members and specify how members can liquidate their shares, according to the book "Drafting LLC Operating Agreements" by John M. Cunningham. Many operating agreements, for example, require a departing member to offer his shares to other members before offering them to an outsider. An operating agreement might also require a majority or even a unanimous vote as a precondition to selling shares to outsiders. Another critical issue is the relationship between the members' respective capital contributions and their allocation of LLC profits and losses. These allocations can be assigned to members regardless of their relative capital contributions, and the IRS will respect a disproportionate allocation for tax purposes as long as it is notified before members' tax returns are due.
Some LLCs are managed collectively by all members. Others are managed by a few members, or even one member. Still others are managed by non-members, if this is allowed in the state of the LLC's formation. Many operating agreements specify that certain decisions, such as the disposal of more than 50 percent of the LLC's assets, must be authorized by a vote of a majority of members, or by members representing a majority of the member's aggregate capital contributions. The operating agreement should specify the LLC's policy regarding these issues.
You may form an LLC with a set expiration date, and it will automatically dissolve on that date. Alternatively, you may create an LLC of perpetual duration. Either way, the operating agreement should address dissolution in case of unexpected events such as bankruptcy. Although state law determines the priority according to which LLC creditors are to be paid, the LLC may distribute the remainder of its assets as it sees fit, as long as the distribution is specified in advance in an operating agreement.
References & Resources
- "Drafting LLC Operating Agreements"; John M. Cunningham; 2004
- FindLaw: Making LLC Operating Agreements
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