- [Presenter] Owner disagreements,
ambiguous responsibilities, personal lawsuits,
these are some of the problems that can emerge
when you start a business.
An LLC Operating Agreement
can help prevent many of these problems from arising.
In this video, we'll go over what an operating agreement is,
why you need one,
what elements make up an operating agreement,
why it's a living document,
and how to get a custom operating agreement for free.
The following is for informational purposes
and is not meant as legal or tax advice.
Before acting on any of these information,
please consult with your lawyer.
(gentle tune)
What is an operating agreement?
An LLC Operating Agreement is a document
written on behalf of its owners,
who are defined as members of the LLC
that establishes ownership of the LLC,
outlines the rules by which you govern your business,
and clarifies the duties and responsibilities of members.
Why should you create an operating agreement?
Some states legally require an LLC
to have an operating agreement,
usually for Multi-Member LLCs.
However, you are not required to file it
with the Secretary of State.
But even if your state does not legally require your LLC
to have an operating agreement,
there are still many reasons to create one.
For Single Member LLCs,
an operating agreement gives your business credibility.
An operating agreement strengthens
what is known as the corporate veil.
This can help prevent people
from going after your personal assets
in the event of a lawsuit.
For Multi-Member LLCs, not only does an operating agreement
strengthen your corporate veil and add credibility,
it also prevents misunderstandings by having clear rules
on the responsibilities of different members
and how things will be voted on.
Additionally, as your company evolves and grows,
you may need to provide a copy of your operating agreement
when working with investors, lawyers, and courts.
What's in an operating agreement?
There are six important sections or articles to consider
when creating an operating agreement.
It's a good idea to be familiar with this information
but you don't need to memorize it
since we have guides and templates on our site
that will walk you through the process.
Let's go through each article one by one.
Article 1: Organization.
The first article deals with the creation of the company,
which state it was formed in,
when it was formed, and who the members are,
as well as their ownership interests.
Two common ways of expressing ownership interests
are percentage ownership
that will add up to 100% between all members,
or membership units, which are similar to shares of stock.
Each member or owner will be listed in this section,
along with the units and percentage of the company
that the particular member owns.
This can translate to voting rights
and a share of the company's profits.
Article 2: Management and Voting.
In this article, there will be three things covered,
whether the LLC will be member-managed or manager-managed,
how voting in the LLC will work,
and what you'll be voting on.
Firstly, an LLC can be managed
by its members or by appointed managers.
If the LLC is manager-managed,
this article also details the authority of the manager
and how the manager can be voted out
by other members of the LLC if so desired.
Next, this article outlines company voting policies.
This is how the company votes on issues
that require a group decision.
You'll need to decide if voting rights
are calculated by the number of LLC units owned by members
or per capita, i.e. one vote per member.
You will also decide
whether the votes need to be unanimous or majority.
Finally, this will detail what actions are to be voted upon
and what is to be decided by the manager.
This can include amendments to the operating agreement,
mergers or dissolution,
new members, sale of assets, and so on.
Article 3: Capital Contributions.
The third article addresses which members have given money
to start the LLC in the form of capital contributions.
This section will also explain
how additional money can be raised by the members.
For example, additional capital might be raised
by issuing additional LLC units to existing members
in exchange for capital contributions
or by issuing additional units to new members.
Article 4: Distributions.
The fourth article describes
how the company's profits and losses
are shared among members.
This might include money,
physical property, or other business assets.
Profits and losses may be allocated among members
proportional to their LLC unit percentage
or by some other metric.
It will also cover distributions,
money allocated to members from time to time
when deemed appropriate.
Again, it will need to be decided
if this is proportionate to each member's unit percentage
or by another metric,
i.e. if some members work in the LLC and others don't,
those members who work in the LLC
may receive an extra distribution.
This section will also make it clear
that distributions and allocations
will still need to follow and account for tax requirements
and fulfill outstanding debts
so the company does not go bankrupt.
Article 5: Membership Changes.
The fifth article details the process
for adding or removing members,
if and when members can transfer
their ownership of the company
and what happens if a member dies, and so on.
This process is related
to the voting procedures outlined in Article 2,
and will acknowledge any documentation
that must be made with these changes.
This section can also cover the transfer of LLC units,
how members can voluntarily sell, transfer,
or assign part or all of the membership interest.
Lastly, you may want to cover
how a member can voluntarily withdraw from the company
and whether they should get a distribution payment
if they do so.
Article 6: Dissolution.
This section of the operating agreement
will explain the circumstances
in which the company may or must be dissolved.
This is sometimes called winding up the affairs
of the company.
If the company has assets,
this section may also detail how they should be distributed
when the company has been wound up.
Why an operating agreement is a living document.
Now you've seen the basic elements
that make up an operating agreement.
It is important to understand,
however, that an operating agreement is not set in stone.
It is meant to change and evolve as your business grows.
This is why it is known as a living document.
Dynamic changes allow the flexibility of an LLC
to work for your business
and not keep you locked into an unfortunate situation.
Changes can be made to the document,
but make sure that all members of the LLC
sign off on the new changes
according to the voting requirements
outlined within the existing operating agreement.
You can also hire an attorney
to fine-tune the operating agreement
if things become overly technical or complex.
How to create an operating agreement with our free tools.
You don't need to write
your own operating agreement from scratch.
We provide both templates and a free online tool
to help you format
a custom operating agreement to get started.
Many LLC formation companies
offer operating agreement templates
and you can also hire an attorney.
Of course, both of these options will cost you money
and lawyers can be very expensive.
To save time and money
while knowing that you can always update
your operating agreement in the future,
you can use our free tool at HowToStartAnLLC.com.
The tool will walk you through the process
in an easy-to-understand manner,
both for a single member and multiple member LLC.
Once you enter your information,
you'll get a custom formatted operating agreement PDF
with all of your information, or you can also use
our existing operating agreement templates
that you can download and adjust to your preference.
We provide lots of tools and resources
to help you accelerate your small business, free of charge.
We would love to see you succeed
in your entrepreneurial dreams.
Thank you for watching.
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if there are any other small business topics
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Good luck starting your small business.
(soft upbeat music)