By: Barry E. Haimo, Esq.
June 12, 2013
The Limited Liability Company (LLC) Operating Agreement
A well drafted and crafted operating agreement is extremely comprehensive and covers management, operation, tax and transfers. In particular, it will address how the company is managed and by whom it is managed. It will set forth members’ (shareholders) rights and obligations. It substantiates the type of taxation of the entity; mainly, partnership tax treatment as a flow through entity, S-corporation, C-corporation or disregarded entity. In addition, it helps to maximize asset protection of the partners’ interests, may include buy-sell provisions, transfer rights, rights of first refusal and no assignment and alienation clauses. It covers compensation, allocation of profit and losses for both tax and accounting purposes and distributions of profits and losses. In other words, it’s the most important document relating to your company.
If you fail to execute an operating agreement, Chapter 608, Florida statutes, will govern with respect to all of the above issues. It’s not necessarily fatal not to have an operating agreement. The statute offers a simple but inadequate solution. It’s insufficient to protect your company, your partners and ensure your objectives are accomplished. As a brief example, the statute does not adequately provide for when partners’ allocation of profit and loss (P/L) deviates from their contributions to the company or even each partner’s membership interest. Sometimes partners work out a deal to make the partnership work, which is a flexibility offered by LLCs. In this case and a lot of other important cases, the statute does not cut it.
Everything in the operating agreement is important. Management is no exception as the agreement generally provides for the framework for how the company will be managed during its lifetime. The agreement will generally designate that the company is member (partner) managed or manager managed. These are like a board of directors of a corporation, with which you’re probably already familiar. It covers voting and quorum at regular and special meetings, during some of which the partners appoint one or more members or managers to serve in such capacity. It provides for electing new management, appointing officers for whom management may delegate responsibilities, and includes procedures for removal and vacancies of management. It may outline each partner’s role and responsibility. Unsurprisingly, management operates the company so the operating agreement enumerates what powers it has to do so, including limiting each particular member or manager’s authority if necessary.
Additionally, the agreement covers how each partner will be compensated for their contribution to the company, which may include money, real property, personal property, connections, time or energy. It may or may not be equitable compensation. If it is equity, it may or may not vest immediately. The statute does not enter the world of deferred compensation for key personnel.
Another important consideration that the agreement does cover is how ownership interests are treated upon death and disability, as well as when an owner simply wants to exit the partnership. This becomes critical when a partner wishes to sell his or her interest in the company to a third party (transferability). Consider factors such as the identity of the third party, price, timing, and how this will all play a part in the overall operation of the company. Would you want to be in business with your partner’s wife, or worse, a stranger?
Lastly, the operating agreement should cover indemnification as well as all pertinent covenants, which may include noncompete, solicitation and confidentiality.
In closing, this post is merely a superficial overview of the contents of a good operating agreement. What’s more important than the actual agreement is the time taken by the partners and the company’s attorney to flush out all the foreseeable and unforeseeable issues now before things get emotionally heated. Haimo Law can help you launch your business better than other firms because we’ve been in the field, having developed real experience ourselves.
Barry E. Haimo, Esq.
Strategic Planning With Purpose
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