This article discusses the importance of having an operating agreement for your limited liability company.
Single-Member LLCs and Operating Agreements
A single-member limited liability company (“SMLLC”) is a one-owner business. The SMLLC is like a sole proprietorship, but having an LLC has advantages over operating a business individually, without filing for a state corporate status. Most importantly, having a business corporation helps to protect your personal assets from exposure to a lawsuit, and it protects against personal liability while conducting business activities. An LLC with more than one owner (called “members”)” has a document called an operating agreement that is prepared with the help of an attorney when the business begins.
What is an Operating Agreement?
An operating agreement is a document that describes the operations of the limited liability company (LLC) and regulates the agreements between the members (owners) of the business entity. All LLC’s with two or more members should have an operating agreement. This document is not required for a single member LLC, but it’s a good idea in any case.
An operating agreement is similar to the by-laws or articles of organization that guide a corporation’s board of directors, or a partnership agreement, which is used by partnerships. By-laws are required for a corporation, but having a partnership agreement for a partnership is not required.
Why an SMLLC Agreement Is a Good Idea
Here are four reasons a single-member LLC needs to prepare an operating agreement – and abide by it:
1. The Operating Agreement Describes the Organization
As noted above, an operating agreement describes the operations of the LLC, listing, the formation of the business and the procedures followed in the business. The agreement also clarifies how LLC funds are contributed and distributed to the owner(s).
2. Separating the Business Entity from the Owner
It is important that a business owner selects the type of business structure at the onset of their business. Personal business should be kept separate from a business entity. When selecting a limited liability entity having an operating agreement and keeping separate records of the operations helps establish the separateness of the business from the owner for liability and federal tax purposes. Nothing is worse than having to sit with an Internal Revenue Service agent, sorting through personal and business-commingled receipts. If you don’t have an operating agreement, you will find it more difficult to show that your business is a separate entity from you. This is crucial, particularly if there is a legal liability issue.
3. Clarifying Business Succession
An operating agreement also clarifies what happens if the owner of a multi member LLC dies or is unable to run the business.; that is, it creates a succession plan. The operating agreement should include a clause stipulating who will manage the LLC if a member is unable to do so. Without this specific provision, it may be difficult for your family to continue the day to day operations of the business or dispose of the business without a lengthy legal battle.
4. Avoiding State LLC Default Rules
If an LLC has no operating agreement, it is subject to the “default rules” of the state in which the LLC is organized. These “default rules” are set out by the state. Having the state tell you how to dispose of your business assets as opposed to how you wish to distribute your business assets is not optimal.
5. Get Help From an Attorney
You can certainly use an online LLC formation service to create an operating agreement, but you are better served by getting the help of an experienced business attorney. Your attorney can help determine the best business type or corporate structure that is suitable for your business pursuits. They’ll make sure all the corporate entity provisions relevant to your situation are included in and he or she can tailor the document to the requirements of your state and your business idea and endeavors. A medium- or higher risk business will require more attention to their business entity formation in their limited liability company agreement, than a less ‘at risk’ business with the simplest structure. Remember, if you fail to properly form your business entity, fail to have the proper legal business agreements, then you risk exposing your personal assets to a possible lawsuit that involves your business.
For more information on limited liability companies and corporate formation of a business entity in general, contact the attorneys at Soble Law at 888.789.1715 to discuss your business concerns further. This article was contributed by Frank Alcini. CPA. Frank regularly works with real estate investors and small to medium sized business owners. Frank can be reached at [email protected].
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