An Operating Agreement is a document that outlines the financial and working relationships of the owners in a Limited Liability Company(LLC). The Operating Agreement allows business owners to set their percentage of ownership in the LLC, that is each owner’s share of the profits or losses, and their own rights and responsibilities as business owners. An operating agreement also sets out the processes that must be followed when a business owner leaves the company.
Why LLCs Need an Operating Agreement
Although LLCs are not legally obligated to create an operating agreement specific to their business, it is highly recommended that you do so—even if you are the sole owner of the company. Why? An operating agreement will safeguard your business’s limited liability status, provide clear financial and management understanding, and allow you to set up the rules under which your business runs.
If you do not draft your own Operating Agreement, you will be held to the default rules under the Georgia Limited Liability Company Act. If you are not following those rules, your Company could be at risk.
For instance, under default rules, many states require owners to split up the profits and losses equally, regardless of each member’s investment in the LLC. If this would seem unfair given the circumstances of your business, you could instead follow the rules outlined in your operating agreement.
Keep in mind that operating agreements are meant to define the inner workings of your business. They do not have the power to override state regulations.
Safeguard Your Limited Liability Status
One of the most important functions that an Operating Agreement serves is to demonstrate to a court of law that your business is entitled to limited liability status. This is most important when you are the sole owner of the LLC, for without an operating agreement, your LLC will appear to be more like a sole proprietorship. An operating agreement will make your LLC more credible in the eyes of the law.
Clear Financial and Management Understanding
If your Agreement clearly lays out protocols for profit-sharing and decision-making, it makes running a co-owned LLC much easier. With guidelines already set in place, everyone will know what to expect if an owner leaves the business or if additional members are brought on board. In the absence of an Operating Agreement, these kinds of situations can trigger fights between Owners and sometimes leads to the breakup of a partnership.
Operating Agreements Commonly Outline:
- How profits and losses are allocated
- How the LLC is managed
- The members’ percentage interest in the LLC
- The members’ rights and responsibilities
- The members’ voting powers
- Provisions for when a member wants to sell his or her interest, dies, or becomes disabled
How to Create an Operating Agreement
The best way to create an operating agreement is to sit down with an experienced lawyer and discuss how you wish your business to run. He or she will be able to guide you through the process and help you recognize important issues that should be addressed. Once everything has been covered, the drafting process can begin. Soon you’ll have an operating agreement that meets your exact specifications and you can begin to do business with confidence.
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