Does every business have an operating agreement? What should the agreement include? And are LLC operating agreements legally binding? If you are looking for the answers to these questions, you're at the right spot. Let's explore operating agreements, what these important agreements look like and more.
What Is an Operating Agreement?
Simply put, an operating agreement is a legally binding document that outlines how a Limited Liability Company (LLC) is organized and managed. It’s an internal document that is usually created upon business formation. An LLC’s operating agreement provides key details on the company, including ownership, management structure and the rules and laws that govern the business.
What If an LLC Has No Operating Agreement?
That all depends on where you live. Most states — with the exception being California, Delaware, Maine, Missouri and New York — do not require an operating agreement. However, each state has statutes and rules that outline how a business can operate. This includes, for example, the adding or removing of members. So the question is, do you want to create the rules that govern your business or have the state tell you what to do with your LLC?
If you do not want your business to follow the default operating statutes within your state, having an operating agreement on the books specific to your organization can override the state’s rules. This is especially helpful if there are internal issues within the company regarding members and their roles. Having an operating agreement will help settle such issues by providing a clearly defined set of guidelines.
What Does an LLC Operating Agreement Look Like?
Not all operating agreements are the same. They can each vary to be specifically tailored to a business. But for the most part, LLC operating agreements tend to cover the same bases. These are covered under “articles” and can use similar descriptions, including:
- Company Formation (or Organization)
- Capital Contributions
- Profits, Losses and Distributions
- Membership Compensation
- Adding or Removing Members
Incfile's Operating Agreement template
What’s in an Operating Agreement?
Here’s a quick breakdown covering what you will need to provide when creating an operating agreement and how most operating agreements are organized.
ARTICLE I: Company Organization
- Name of the LLC
- Date of formation of the LLC
- Business address
- Registered Agent name and location
- The purpose of the LLC
- Terms of operation
- Duration of the LLC
- Names and addresses of the LLC members
ARTICLE II: Capital Contributions
- Initial capital contributions from members
- Additional capital contributions
ARTICLE III: Profits and Loss Distributions
- Annual financial accounting on profits and losses
- Tax and financial provisions
- Distribution of funds
ARTICLE IV: Management
- Management of the business
- Member roles and responsibilities
- Company records, including financial statements
ARTICLE V: Compensation
- Management fees
ARTICLE VI: Bookkeeping
- Financial records and accounting method
- Member accounts, including contributions, distributions and shares of loss
- Reporting of company financials to members
ARTICLE VII: Transfers
- Sale or assignment of a members' shares
ARTICLE VIII: Dissolution
- When an LLC can (and cannot) be dissolved
- Payment of debts
- Distribution of assets
Types of Operating Agreements
Three of the most common types of operating agreements include single-member, multi-member and manager-managed. Though most of the information found in these agreements is uniform, there are additional clauses that highlight key differences in organizational structure and responsibilities.
Single-Member LLC Operating Agreement
Unlike the more complicated operating agreement used by a multi-member LLC, this first example applies to a business with only one owner. Having an operating agreement for a single-member LLC will outline the procedures followed by your organization, establish a separation of the business’s finances from those of the owner and outline what will happen to the business if the owner is unable to continue working.
Multi-Member LLC Operating Agreement
In addition to outlining the percentage ownership and membership of a multi-member LLC, the main purpose of this type of agreement will highlight how the members resolve internal disagreements on the running of the business, distribute capital (or share losses), handle the transition of membership (adding or removing) and the duties and responsibilities of the members.
Manager-Managed LLC Operating Agreement
Most LLCs are managed by a single-member or multi-members that are involved in the running of the business and share roles and responsibilities. However, when it comes to a manager-managed LLC, the authority to make decisions is delegated to the managers, which may or may not necessarily involve the members of the LLC. This type of operating agreement would work well if LLC members do not want to be involved in the day-to-day operations and responsibilities of the business and prefer taking a more passive role. The operating agreement here would delegate authority to managers. The exact roles of the manager(s) would be clearly outlined in the agreement.
Are LLC Operating Agreements Legally Binding?
LLC operating agreements are the rules and framework that will help guide your business, address issues and set a path to follow when it comes to the distribution of profits and losses and how to deal with conflict within the organization. Although an operating agreement does not need to be notarized, it is important to make sure the agreement is signed by all the members. Doing so will make the operating agreement legally binding.
The original document of the agreement should be kept safe and secure with the rest of your company’s important documents. You should also have digital copies of the agreement saved in a secure location as well.
Having an Operating Agreement for Your Business
An operating agreement provides business owners with a well-organized structure when it comes to taking care of issues that may arise within the LLC. If you need to make changes to your operating agreement, these will need to be approved and signed by the other members.
If you are starting your business and are ready to put together an operating agreement, our business formation specialists can help you write a customized operating agreement that will cover all the bases for your company.