LLC Operating Agreement

DEFINITION of 'LLC Operating Agreement'

An LLC Operating Agreement is a document that customizes the terms of a Limited Liability Company (LLC) according to the specific needs of the owners, and outlines the financial and functional decision-making in a structured manner. Though writing an Operating Agreement is not a mandatory requirement for most states, it is nonetheless considered  a crucial document that should be included when setting up a Limited Liability Company. The document, once signed by the members (owners), acts as a binding set of rules for them to adhere. The document is drafted to allow owners to govern the internal operations according to their own rules and specifications. The absence of this document means that your business has to be run according to the default rules of your state.

BREAKING DOWN 'LLC Operating Agreement'

An LLC Operating Agreement is a 10-20 page contract document which sets up guidelines and rules for an LLC. In states such as California, Delaware, Maine, Missouri and New York, it is mandatory to include this document during the incorporation process. Most other states don’t insist on including it. But it is always considered wise to draft an Operating Agreement, as it protects the status of a company, comes in handy in times of misunderstandings, and helps in carrying out the business according to the rules set by you. The businesses that do not sign an Operating Agreement fall under the default rules outlined by the states; these are very general and may or may not be right for your business.

There are many issues that must be covered in the LLC Operating Agreement. The general format of the document includes the following:

  1. Each member's ownership expressed as a percentage
  2. The members' responsibilities and voting rights
  3. A layout of the duties and powers of members
  4. The profit and loss allocation among members
  5. The rules related to holding meetings and taking votes
  6. The issues related to the management of the LLC
  7. Buyout and buy-sell provisions, when a member wants to leave and sell his/her share; also should include what will happen in the event of a member's death.

An Operating Agreement, once signed, should be kept safely as an important record of the business.