Operating agreements determine, quite literally, everything about your business. Who makes decisions? Who has control? If the business dissolved, what would happen? What about taxes?
These questions can easily make your head swirl. So we sat down with Erica Opitz to get the low-down on these pesky (but crucial) documents. Opitz is a senior associate at Chamberlain Hrdlicka in Atlanta, and deals with operating agreements constantly. You can watch her full webinar here, or we’ve delved into the biggest points to know below:
Your operating agreement is your road map.
The simplest way to understand an operating agreement is to realize it is your map. Where is your business headed? What are some of the stops along the way? And how will you handle getting to where you want to go? This is all laid out in your company’s operating agreement. Without it, getting lost is almost a given.
Operating agreements are especially important when your LLC has multiple partners.
If your LLC is just you, an operating agreement could probably be a simple, two-page document. But if there are multiple partners, things are more complex – and your operating agreement should be, too. According to Opitz, these agreements should be in the 30-page range to cover everything your company needs.
It’s not just about money: It’s about control.
Most think that operating agreements are just there to divvy up money. But they also serve to divide up something just as important: voting rights. If you’re a founder of a company, but you’re bringing in outside investment, do you still want to maintain control? If so, that needs to be laid out in the operating agreement. If it’s not, be prepared for your investors to have a level of control that could possibly exceed yours.
Who has veto rights?
An operating agreement could also expressly lay out who has veto rights on decisions made within the company. If you as a founder want to go in a new direction, do your investors have the ability to tell you no? Well – it all depends on what your operating agreement says.
An operating agreement often evolves along with the company.
There’s nothing saying that your initial operating agreement must be permanent. As your company evolves, so too should the documents governing your business. One of Opitz’s clients, for example, has been through five rounds of outside investment. Each time, Opitz and her team have made changes to the company’s operating agreement.
A business succession plan is an important piece.
What happens if you, the founder of your company, are no longer able to run the business? A business succession plan is often an integral part of an operating agreement. It lays out what happens, in the event of an LLC partner’s death or disablement. No one likes to think about these scenarios – but having a plan to deal with them is crucial.
Have a team of trusted advisors in place.
Operating agreements can get wildly complex. So it’s best to have someone in your circle who can maneuver you through the process.
“You as a business owner – it’s not your responsibility to figure it out,” Opitz said. “It’s your responsibility to develop a team of trusted advisors who can tell you what it (operating agreement) says, who can ask you the right questions of what you want this to look like.”
If you don’t have an operating agreement, the default option can be messy.
LLCs that don’t have a customized operating agreement in place default to the rules set by the LLC Act. That means that no matter the level of initial investment by each partner, the interests of the company are divided up evenly if the business ends. In this scenario, even if you put in 95 percent of the money, but you never had an operating agreement detailing your 95 percent ownership stake, you’re automatically going to split with the other partner 50-50.
To avoid this, it’s crucial you take the time to develop your own operating agreement.
A new law makes audits a little scarier for LLCs.
LLCs could now be responsible for the individual tax deficiencies of their members. Under the new tax law, if a partner of an LLC is audited and found to have not paid enough taxes, the company itself could be liable for that amount, should the IRS not be able to get the money from the individual.
How these scenarios are handled, however, could depend on – you guessed it – the operating agreement. Provisions can be included that put the responsibility for tax underpayment squarely on the individuals responsible. For more details on the new tax law and how your company can avoid hefty IRS fines, we’ve got you covered there too.
If you’re looking for some help on setting up your LLC’s operating agreement, or want to learn more about Erica, check out her WMN/WRK profile here.