How to Draft a LLC Operating Agreement

Unlike a Sole Proprietorship or a Partnership, in which the owners are personally liable for business debts, a Limited Liability Company, like a Corporation, protects the owners from personal liability. An LLC not only protects personal assets of owners, but avoids the double taxation paid in the corporate structure—first on the corporation itself, and then on dividends/distributions paid to the shareholders. In an LLC, both profits and losses pass to the owners. In order to run an LLC, those involved should create an Operating Agreement. The steps below outline some general needs of such an agreement.

Difficulty:

Moderate

Instructions

1. Check the laws and filing requirements for the state in which the LLC is being formed. Then formulate and draft answers to the basic questions outlined here.

2. Define how profits and losses from the business will be shared among the owners. Will this money be apportioned on the basis of individual investments, participation percentages or some other way? How are management decisions made—shared or specific individuals responsible for different areas?

3. Include provisions dealing with new investors and how to deal with departing members. Are there certain minimum investment requirements? When and how does a member who severs relationship with the LLC receive funds from an investment? What happens in the event of an investor’s death? What are requirements for accepting new members? How can members be expelled?

4. Spell out how each person’s ownership percentage is determined. The agreement should include each initial member’s name, address, investment, and percentage of participation. Ensure each owner understands income and loss from the LLC is reported on the individual owners’ personal tax returns. How and when are distributions made?

5. Draft specific statements dealing with business operations such as when the owners meet, how votes are apportioned—one person per vote, by number of units of investment or some other way? What rules govern meetings and votes? How can the operating agreement be amended?

6. Provide details in the agreement on any other specific factors necessary for day-to-day operation relevant to the particular type of business involved. Identify procedures to be followed in the event of dissolution and liquidation of the LLC.

Tips & Warnings

• Actual operating agreements for LLC’s contain far more specific information than can be conveyed in this simple outline and can fill more than ten pages.

• The local public library may contain books of business forms that might provide guidance.

• Forms for LLCs are available for sale on the Internet from multiple sources.

• Give serious consideration to hiring an attorney to aid in such an important operation as formation of a new business.