How to draft an LLC operating agreement

Part of the process of forming an entity is drafting the Operating Agreement. Most banks require three (3) documents to open a business bank account: (1) the Articles of Organization, (2) an Operating Agreement, and (3) an EIN number. An Operating Agreement is essentially the contract between the new entity and the member(s) (and potentially manager(s), as well). In some states, it's mandatory to create an LLC Operating Agreement when setting up a new company. Even if you live in a state that doesn't require an LLC Operating Agreement, it's still to your advantage to create one, and strongly advisable if there are multiple members. A Partnership Operating Agreement contains information such as establishing the rules, processes, and provisions that dictate how the business is operated internally. It would include provisions related to equity, capital contributions, distributions, voting rights, management, transfers, dissolution and other material terms.

Since so much vital information goes into drafting an LLC Operating Agreement, it might seem overwhelming. However, this doesn't need to be the case. Consider getting experienced counsel when starting a new LLC so that your agreements are consciously planned for and drafted clearly. Here are five of the material provisions generally included in an LLC Partnership Operating Agreement.

How to Create an LLC Operating Agreement

The information that an LLC Operating Agreement contains depends on the type of business you are planning to run. However, there are some factors that you can find in most LLCs: tax considerations, number of members, the structure of management, member investments, and sharing of profits, among others. If there are multiple members who run the LLC, the Operating Agreement will become a binding contract between the members.

• Ownership Percentages

The first step in drafting an LLC Operating Agreement is to determine equity ownership percentages. In the ownership portion of the operating agreement, the draft will outline how the profits, losses, and assets of the LLC are divided and distributed among the members or recapitalized.

• Designate Member Responsibilities

After declaring the ownership percentages, the next step is to designate each member's roles and responsibilities. This is considered to be one of the most important aspects of an Operating Agreement because it provides clarity. In this section, you can include information such as compensation if any, performance requirements, and more.

• Conditions for Joining/Leaving the LLC

As your business grows, members will join or leave. Therefore, the Operating Agreement needs to be used as a protocol for when that happens. You need to set the conditions for what happens when a new member joins the LLC or someone decides to leave.

• Dissolution

Even though dissolution is not something you want to think about when starting a new LLC, creating the dissolution terms from the beginning is important to avoid potential future issues. The Operating Agreement will detail terms for how to dissolve the LLC if that day ever comes. It's important to determine how the assets are split among the members after all debts have been paid.

• Decision-Making and Voting Rights

One of the most important steps in creating an LLC Operating Agreement is discussing and deciding on how your business will make decisions. There could be day-to-day decisions made by a manager, majority decisions requiring more than 50% equity vote, supermajority decisions, and unanimous consent. Deciding which decisions fall into what category is an important conversation to have with the founding members. Therefore, having counsel guide you through the process can be helpful for your business to have a strong foundation and positive momentum for future growth.