LLCs: Why an Operating Agreement is Important
This post discusses why an operating agreement is important for every limited liability company (LLC). It expands upon an answer I provided on Quora several months ago. (See In simple terms, why are operating agreements important?)
An operating agreement is an agreement among the members of an LLC. It addresses relations among the members and how the LLC will conduct its affairs.
Requirements for an Operating Agreement
Requirements for entering into an operating agreement are specified in the law of the state of formation. For example:
- California Corporations Code Section 17701.02(s) states that an operating agreement may be written or oral, express or implied, and need not be called an operating agreement.
- Similarly, Delaware Limited Liability Company Act Section 18-101(7) states that a limited liability company agreement, whatever its title, may be written or oral, express or implied.
Why an Operating Agreement is Important
One of the greatest reasons why an operating agreement is important is so there will be agreed-upon and documented sets of rights, obligations and procedures to refer to when disputes arise.
I recently represented two LLC members who were in a dispute with the third member. That member had his own lawyer, and there was a lawyer representing the LLC, as well.
There was no operating agreement – just two years of contradictory emails to dissect and interpret. The parties and their lawyers spent weeks arguing about basic issues: Who are the managers? Who are the members? What are the members’ respective percentage interests?
Even the Articles of Organization could not be relied upon. They were prepared by the LLC’s accountant, rather than a lawyer (BAD MOVE), and they included contradictory provisions concerning management of the LLC!
As a result, the parties incurred legal fees far greater than the fees that would have been required if an attorney-prepared operating agreement had been in place.
in summary, a solid operating agreement is important to reduce the likelihood that a dispute will arise and, if there is a dispute, to help resolve it as quickly as possible.
Dana H. Shultz, Attorney at Law +1 510 547-0545 dana [at] danashultz [dot] com
This blog does not provide legal advice and does not create an attorney-client relationship. If you need legal advice, please contact a lawyer directly.
Business Entities, Contracts