When people first have the idea to start a company, they may not know how much work it may take to make it a reality. They may have a great business idea, but they don’t realize how long it’s going to take before they’re making any money from it. This can be very disheartening for people, especially if they just want to quit their day job and start living off their business income.
One of the aspects of business formation that many potential entrepreneurs may overlook is the development of an airtight operating agreement. This is especially true if they are forming an LLC because it’s one of the least expensive business entities to form, and there may not be any ongoing reporting requirements once the company is formed, depending on the jurisdiction.
In Philadelphia, however, there are several reasons why having an LLC operating agreement drawn up by a legal professional is essential to the success of your business. Understanding these benefits could be the difference between a thriving company and going out of business.
The agreement between shareholders establishes the rules of governance for the company, including how much capital is contributed by each shareholder, what percentage of profit must be distributed to each shareholder, and when distributions can take place (if ever). Without one, it would be up to each shareholder on his or her own to make these decisions. With limited or no knowledge about business, they may not be able to agree on fundamental points of company operation.
The operating agreement is essential if there are multiple owners. When an LLC has only one owner, it doesn’t matter whether it’s set up as member-managed or manager-managed because there’s no chance of disagreements on how business should be done. However, when you have two or more owners, it’s essential that everyone agrees on how the business should be run.
A lack of understanding about how LLCs function is probably why many companies don’t have an operating agreement. They may assume the document does not provide any benefits, but it is important to note that many states require LLCs to have one. While Philadelphia does not require LLCs to file one, it can be useful for avoiding business disputes later on.
It is a binding contract between members of the LLC. This ensures that everyone adheres to the rules set out in the document. Without an operating agreement, it would be difficult to hold your fellow shareholders accountable for acting in good faith towards other members. The operating agreement is not filed with state agencies, and it only goes into effect when the LLC has been formed. Operating agreements are private documents in PA.
Here are some tips for drawing up an LLC activity agreement:
The operating agreement is the only place where you can put certain provisions of your company’s operating policy. These are rules which you want to be clearly stated so they cannot be misinterpreted or misconstrued later on. For example, you may have a policy that prevents shareholders from selling their interest in the company to an outside party unless all other shareholders agree. Without this provision stated clearly in your operating agreement, it would be up to each shareholder to try and prevent that transaction.
The agreement states whether the business is run in a “member” or “manager” format. If it’s a member-managed LLC, then all members have an equal say in the management of company activities. In this case, there would be no distinction between voting rights of shareholders and managers. All members would have the right to vote on business matters, including whether to distribute profits from the company’s income stream.
A “manager” format means that you choose a manager or multiple managers who will make day-to-day decisions for your LLC. They have full discretion over all company activities unless there is a specific provision in the operating agreement that allows shareholders to veto a decision.
The operating agreement is essential if there are multiple owners. When an LLC has only one owner, it doesn’t matter whether it’s set up as member-managed or manager-managed because there’s no chance of disagreements on how business should be done. However, when you have two or more owners, it’s essential that everyone agrees on how the business should be run.
Some of the other most important clauses include:
While it may be possible to draw up an LLC activity agreement without a lawyer, it is generally not advisable. Having an attorney draft the LLC operating agreement can make the difference between a business’s success or failure. A lawyer may also be able to spot places where the terms of the agreement may need to be adjusted before the document can be implemented. An experienced lawyer should know what type of language is appropriate and help the client avoid mistakes that might require amending the document later on.
Before enlisting an attorney’s services, the client should ask a lawyer what type of state fees and court cost will be charged for services. A client may want to consider having the attorney charge an hourly rate rather than a fixed amount for certain tasks such as amending terms in an LLC agreement.
For more information on setting up your company’s operating agreement, you should not hesitate to contact a business law firm today.
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