LLC Laws

by Jeff Franco J.D./M.A./M.B.A.

The applicable laws governing LLCs depend on the jurisdiction that creates them. Most jurisdictions have similar requirements as a result of the widespread adoption of the Uniform Limited Liability Company Act. Although as an owner of an LLC, you are free to operate the business with minimal governmental intervention, you must still comply with the applicable laws when necessary.

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Operating Agreements

The owners, who are known as members, of an LLC can draft an operating agreement, which all members must adhere to. Provided it does not violate the laws of the jurisdiction, you are free to stipulate such issues as the number of votes necessary to admit a new member, how profits are allocated among the members, member contribution requirements, restrictions on membership interest transfers and limitations on the types of business transactions in which the LLC may engage. For example, the state of Delaware restricts the transfer of a membership interest that provides the transferee with a right to manage the LLC. However, the relevant statute also expressly states that the operating agreement may allow such a transfer.

Fiduciary Duties

A majority of states require a minimum standard of conduct of all LLC members. A common standard is the duty of loyalty each member owes to the LLC. Loyalty requires the members to refrain from conducting business activities that serve the interests of others rather than the LLC. A breach of this duty occurs when a member conducts LLC business to promote personal gain or creates a separate business that is in direct competition with the LLC. The consequence of a breach may include the member being personally liable to the LLC for lost profits and other resulting damage to the business.

Dissolution

When a state authorizes the creation of an LLC, the entity has a perpetual life. Governments will only require dissolution of an LLC if pursuant to a court order or if 90 consecutive days elapse without a single member. However, the court order is initiated by an LLC member rather than the government. A member generally seeks court intervention when the LLC engages in fraudulent or criminal activity. The LLC members are free to dissolve the LLC at any time if there is unanimous consent or the operating agreement requires it. Most jurisdictions do not require a formal filing to effectuate a valid dissolution; however, some jurisdictions may continue to recognize the entity until it receives notification. For example, to dissolve a New York LLC, the state requires the filing of the articles of dissolution and a filing fee.

Tax Compliance

Upon the legal formation of an LLC, you must also adhere to the federal income tax laws. The IRS classifies all multi-member LLCs as a partnership, and single-member LLCs as a sole proprietorship solely for tax purposes. This imposes the obligation to report and pay tax on business earnings on individual members. Members must report their allocation of the LLC’s taxable earnings on a personal tax return each year. However, members of the LLC may elect corporate tax treatment, which requires the business entity to report and pay all tax.