Start Up with an LLC? What Does Your Operating Agreement Say?

It’s fairly easy to start up and to organize your limited liability company (LLC) with the filing of articles of organization with the North Carolina Secretary of State’s office.  Many clients file the articles themselves.  The LLC has become one of the most popular forms of business entity among new businesses being formed.

Owners of an LLC are called members. Members may include individuals, corporations, other LLCs, and even foreign entities. There is no maximum number of members. Most states, including North Carolina also permit “single-member” LLCs, those having only one owner.  However, because of significant potential liabilities, and both legal and tax consequences, if your LLC has more than one member or owner, we advise our clients to think about and to write and agree on a clear and unambiguous operating agreement.  There are also securities law requirements and considerations if you have multiple members investing equity capital in your LLC.

The operating agreement works like a partnership agreement, as the owners/members are treated for tax purposes like partners, or like a shareholders’ agreement in a closely held corporation.  A written operating agreement is not required by North Carolina law, but the absence of a clear understanding and written agreement on key points of the business between the members leaves much to chance and may lead to potential disputes and headaches later.

What details should the operating agreement cover? Well, some fundamentals include the following questions you and your fellow members should discuss and agree on:

  • How much capital do we need for our start up?  How much is each member investing for a percentage ownership interest?
  • Will the LLC need to borrow money, from members or third parties?
  • Who is the manager, and who selects the manager?
  • When the LLC earns income, how will distributable cash be distributed, and when, or how will money earned be reinvested in the business?
  • How will major decisions of the LLC be made? Do we need the members to agree unanimously or by some supermajority vote requirement on the big issues?
  • What happens if the members can’t agree, or become deadlocked?  How are disputes resolved, or should we include a buy/sell provision if we can’t work out our differences?
  • Can the members compete with each other and with the business of the LLC?
  • Can the members bring a legal action or arbitration to resolve a dispute or to sue for breach of the operating agreement or a member’s failure to make a capital contribution?

These questions and other issues unique to your LLC’s business and your business plan should be discussed and agreed on by the members who are bringing their capital, their talents and labor to the new business, and memorialized in a writing prepared by your lawyer, along with advice about tax and accounting- related provisions from your accountant and tax advisor.