LLC Managers vs. Members

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

When you create a limited liability company, the owners are referred to as its members. By virtue of holding a membership interest in an LLC, you have the right to actively participate in the management of the business. Alternatively, the LLC may hire non-member managers to oversee the daily operations as employees of the company. However, a member may also hold a management position similar to that of an employee.

When you create a limited liability company, the owners are referred to as its members. By virtue of holding a membership interest in an LLC, you have the right to actively participate in the management of the business. Alternatively, the LLC may hire non-member managers to oversee the daily operations as employees of the company. However, a member may also hold a management position similar to that of an employee.

Management Authority

The members who manage the LLC business have authority to act as agents for the LLC and enter into binding contracts on its behalf. Provided the member does not act beyond the scope of her authority, the member is not personally liable for obligations that the LLC does not satisfy. Similarly, an employee-manager may also bind the LLC to contracts when acting in the ordinary course of business. The operating agreement of the LLC generally provides the limitations that each member-manager and non-member manager has to enter into contracts. Oftentimes, these agreements place more restrictions on an employee than a member.

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Compensation

A member who voluntarily exercises his right to participate in managing the business does not receive a salary from the LLC. Generally, the fruits of his labor are obtained through distributions of LLC profit and the appreciation in value of his membership interest. However, if the LLC specifically designates a member as a manager, that member may collect reasonable compensation for his services in addition to any profit distribution. On the other hand, a manager who is an employee of the company receives a salary as any other employee does, but has no right to profits of the LLC. Only the salaries the LLC pays to employees and member-managers are tax deductible to the LLC. However, the salary must be reasonable in light of the services the manager provides and the level of responsibility and complexity the role requires. Excessive salaries for member-managers are particularly susceptible to IRS scrutiny. \

Termination

An LLC manager who does not hold an ownership interest in the LLC can be terminated at the will of members or in any other manner that complies with the local jurisdiction’s labor laws. The expulsion of a member is harder to accomplish. Unless an operating agreement allows for other methods, the member is not subject to expulsion unless there is unanimous approval of all other members. In the event of expulsion, the member does not lose his financial interest in the LLC.

Taxation

Members and employee-managers are subject to different income taxation rules. Employee-managers are subject to withholding taxes each pay period and report the amount of gross income they receive during the tax year on a personal income tax return. In contrast, if the LLC does not elect corporate tax treatment, the member must pay income tax on his respective share of LLC earnings each year, regardless of whether the LLC retains those earnings or makes a profit distribution. The member must make estimated tax payments throughout the year even if the LLC retains earnings.

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