New York's LLC law requires LLC members to adopt a written operating agreement within 90 days after filing the Articles of Organization.
An LLC operating agreement is a complex document that can easily reach 20+ pages. The core elements usually include provisions on creation of the LLC, members’ contributions and interests, allocation of profits and losses, distributions, administration of company business, accounting and records, dissociation of members, transfer of members’ interest, and dissolution/liquidation. It is advised that founders/members make rational discussions over these provisions based on their understanding and prediction of the LLC's future operation. Founders/members can also use this negotiation as a chance to evaluate and optimize the operation of the LLC.*
Below is a brief description of some potential sections of a typical member-managed LLC operating agreement (or in other words, what should founders discuss in preparation for drafting a meaningful member-managed LLC operating agreement).
1. CREATION OF LIMITED LIABILITY COMPANY
This provision generally shows the LLC’s basic information listed on the Articles of Organization.
2. MEMBERS, CONTRIBUTIONS AND INTERESTS
Initial Members: Lists out the names of the initial members of the LLC, the amounts of their initial capital contributions, and their initial Ownership Interests.
Initial Capital Contributions (including assets, IP contributions): The time and method of the delivery of the initial capital contribution.
Additional Members: Outlies how additional members may be accepted (i.e. acquire interests in the LLC).
Additional Contributions: Outlines the manner under which members can make additional contributions, and under what circumstance can the company require members to make additional contributions.
3. ALLOCATION OF PROFITS AND LOSSES
Determination and Allocation: x% of the profit or loss will be allocated to the members; 1-x% of the profit or loss will be allocated back to the company’s operating bank account.
Prorates: If a member has been a member of the company during only part of a fiscal year…
4. DISTRIBUTIONS
Annual Distribution: To enable the members to pay taxes on income of the company…
Additional Distributions: Outlines how and under what circumstance may the company make additional distributions to members.
Allocation and Limitation: e.g. …must be made to members in proportion to their ownership interests.
5. ADMINISTRATION OF COMPANY BUSINESS
Vote: Majority approval or unanimous approval or else? This provision is usually heavily discussed/negotiated among founders.
Disputes among members in the daily operation
Expend Funds.
Sign Documents.
Borrow Money.
Hiring.
Actions by Members
Transfer Assets.
Merger.
Amendments.
Indebtedness.
Conflict of Interest.
Company’s Business.
Bankruptcy.
Compensation and Reimbursement
Outside Activities
Fiduciary Duties
Standard of Care.
Accounting.
Conflict of Interests.
Noncompetition.
Self-Interest
e.g. a member may lend money or transact other business with the company, and, in this case, … approved or ratified by the majority of members based on ownership interest.
Indemnification
Outlines under what circumstance, the company must, or may, or “has no obligation” to indemnify …
6. ACCOUNTING AND RECORDS
Books and Record: Lists out the books and records that must be maintained at the principal office of the company. Rules regarding members’ access to books and records.
Banking: Manner and rule on fund deposit and withdraw.
Fiscal Year: e.g. The fiscal year of the Company will be the calendar year.
Accounting Reports: e.g. Within 90 days after the close of each fiscal year, the Company must deliver to each Member an unaudited report of the Activities of the Company for the year…
Tax Classification: Whether the LLC elects to be taxed as a sole proprietorship, partnership, or corporation
Tax Returns: e.g. … Within 90 days after the end of each fiscal year, the Company must deliver a Schedule K-1 to each Member showing…
7. DISSOCIATION OF MEMBERS
Withdrawal: e.g. …must give notice of withdrawal to the other Members at least 90 days prior to the effective date of the withdrawal.
Expulsion: Under what circumstances and following what manner may a member be expelled
Events of Dissociation: a. Incapacity; b. Bankruptcy.
Effect of Dissociation: e.g. Within 60 days after the Dissociation Date, the Company may elect to purchase a dissociating Member’s Ownership Interest by…
Status of Member: e.g. If the Company and other Members fail to purchase a dissociated Member’s interest…
Purchase Price
Indebtedness, Guaranties and Security Interests: Re: obligations of the Company and other Members owed to the dissociated Member
8. TRANSFER OF MEMBERS’ INTERESTS
Effectiveness of Transfers
Permitted Transfers
Tender of Interest
Acceptance of Tender
Purchase by Members
Purchase of Entire Interest Required
Substitution: e.g. a transferee will be admitted only if all of the Founding Members and the majority of all the members based on Member’s percent of Ownership Interest consent to the admission…
9. DISSOLUTION AND WINDING UP
Causes of Dissolution: Under what circumstances will the company dissolve
Liquidation After Dissolution: Re: the order of priority; a. Creditors; b. Reserves; c. Members etc.
Distribution of Property in Kind: e.g. property of the company may be distributed to members in kind in the process of winding up with unanimous (or majority) approval of members…
Negative Capital Accounts: If there is a negative balance in any member’s capital account after the business of the Company is wound up…
10. MISCELLANEOUS PROVISIONS
Amendment: Re: vote required to amend this agreement, whether oral agreement is acceptable.
Dispute Resolution Among Members: Re: dispute resolution over the provisions of this agreement
*After all, a meaningful operating agreement is a living document that requires constant maintenance/amendments to reflect the changes of the circumstances.
**This blog provides general information for educational purposes only. It is not intended to constitute specific legal advice and does not create an attorney-client relationship.