What is an LLC Operating Agreement?
An LLC operating agreement is a vital tool for the organization and operation of a limited liability company. Although not required by Michigan law, an operating agreement lays out the structure and rules of the LLC. The terms of the operating agreement are legally binding on the business and the individuals involved in the business . Even if the individuals or members of the LLC have an oral agreement or even just an understanding, the written structure of the operating agreement will generally stand as the definitive legal document governing the relationship of members. The operating agreement will control how you and your fellow members interact, the voting rules and limits, the procedure for making new members and the expansion of the LLC, and the dissolution of the LLC and the termination of the existence of the business.
Essential Components of Michigan LLC Operating Agreements
An LLC operating agreement in Michigan must outline the basic tenets of the relationship between the owners of the LLC as well as governing the internal affairs of that entity. Standard operating agreements will contain multiple key elements, which include the following:
Business Name and Purpose – The full name of the LLC, how the company will be operated, and how profits will be distributed should be outlined in the agreement.
Members – An operating agreement will list every member of the LLC and provide what each member’s role and responsibilities will be.
Voting – How the LLC will be governed will be detailed in the operating agreement. How votes are taken, how many votes are required to pass a particular measure, and how many votes each member will have (if members are not equal owners, for instance) will all be discussed. It will also detail how decisions will be made and how meetings will be called.
Profits – A Michigan LLC operating agreement will detail how profits are distributed and when they are distributed. Distributions are typically made according to ownership percentages, but this may not always be the case. How distributions are taxed and whether distributions can be used to offset future losses should also be addressed in the agreement.
Transferring Membership – If one of the owners wants to transfer their interest in the company, how will this be handled? An option to buy out is an integral part of many operating agreements, as well as restrictions on transferring ownership interests to outside parties.
Dissolving the Business – An LLC will require dissolution at some point. Whether this is tied to a date, a decision by the board of members, or a specific event, all terms surrounding dissolution should be included in the operating agreement.
Legalities in Michigan
To legally form your Michigan LLC, you need to file a document called the Articles of Organization with the Michigan Department of Licensing and Regulatory Affairs. The Articles are a short, 1-page document requesting basic details about your LLC, all of which should automatically be included in your operating agreement. The Article’s instructions specifically suggest that you create an operating agreement and that the details should be included as an exhibit to the Articles document. Notably, Michigan law does not require you to file your operating agreement with the Articles; this is a private document that only you and your members may choose to view.
Many states have a publication requirement for new LLCs, but not Michigan. In the past, Michigan also required LLCs to publish excerpts of their Articles once in a newspaper, but there is currently a bill in the Michigan house of representatives to remove that requirement. Of course, you may choose to do a voluntary publication to limit your liability to third parties, but it’s not required by law.
Sample Operating Agreement Content
Sample LLC Operating Agreement Structure
The provisions of an operating agreement in Michigan do not have to be arranged in a specific order and it can include any type of information. However, this is not to say that the agreement can be a haphazard list of details that requires its members to scour through to find the information they seek. In many instances, the basic structure of an operating agreement is derived from general corporate law, which means it consists of the following components:
Overview of LLC:
This section outlines the information about the new business entity. In short, what is the company offering? Who are its founders? Where is the company doing business?
Ownership of LLC:
This section details each member’s ownership of the new company. Ownership is less about how many assets the individual member brings to the business and more about how many units of ownership they have been awarded. Think of this as a share of ownership. The next section will outline each member’s contribution to the business.
Contributions of Members:
Each member should outline what they are making available to the company. This is not simply monetary contributions, but assets as well. For instance, a member may be contributing a set amount of capital, but they may also be a partner in a real estate deal and will be adding the property to the LLC.
Profits and Losses:
The contributions made by every member will be added to the company’s assets. This means that the company will likely make money and each member will receive a portion of these profits. On the other hand, the company could suffer a loss which would impact all members’ capital. This section will break down how the distributions of profits and losses work.
Event of Dissociation:
In Michigan, there are specific examples in which a member can walk away from the LLC. For instance, the company is not performing well and they will need to step aside to allow another member to take over. This section is designed to protect all members by providing them with details on how a member can leave the company and take their capital contributions with them.
A sample LLC operating agreement in Michigan does not have to cover all of the sections outlined above. In some cases, depending on the nature of the industry, certain sections can be omitted. However, if they are not included, there must be a valid reason for it.
Advantages of a Suitable Operating Agreement
A well-drafted LLC operating agreement provides certain benefits for both the company and its owners. When properly formulated, an operating agreement defines all aspects of the company, from ownership to responsibilities, rights and obligations.
A comprehensive agreement will help avoid disputes down the line. It reduces uncertainty by explicitly articulating not only ownership percentages and shares, but also capital contributions and ways to transfer ownership. It can outline the procedures to dissolve the company in a manner that protects each member and their investment, and ensures that assets are divided in a way that adheres to specific terms outlined by the company. The operating agreement may also provide instructions on how to become a member or leave the company.
A clear and concise operating agreement makes for a smooth and seamless operation . A good agreement will make the day-to-day operations of the company run smoothly because all members participate in establishing the terms. The agreement lays out the daily operations of the company, including how members get paid, how to handle taxes, how to share profits and losses, and how to hire new people.
In addition to avoiding disputes and smoothing out operations, an operating agreement provides legal protection. Michigan law did not define the relationship and business affairs between the LLC’s members until the Michigan Limited Liability Company Act was enacted in 1993. Before that, it was necessary to seek court guidance for interpretation of operating agreements. Now, an agreement should specifically address any and all issues, and not rely on Michigan statute to clarify.
Common Errors
When creating an LLC operating agreement, there are a number of pitfalls that you will want to try to avoid in order to ensure that your document not only holds up in court but is also helpful when it comes to managing your business. For instance, if you fail to have an operating agreement drafted before beginning your business operations, and your business decides to incorporate in Michigan, the state will create your operating agreement for you, which may not be in your best interest. Another major mistake that is often made by business owners is failing to contact an attorney to have their operating agreement crafted. This document is essential to your business, and therefore should be drafted with the help of an attorney experienced in drawing up these types of documents. Even if you are running a small business with only two members, you cannot afford to take shortcuts with an operating agreement. When writing your operating agreement, you don’t want to leave out essential information. Any information that is not included in your operating agreement can easily lead to conflicts at a later time. You also should not draft your operating agreement and fail to share it with your members. A good operating agreement is useful to all members of the company, so it should be clearly understood and accessible to all owners.
Tailoring Your Operating Agreement
For business owners in Michigan, the process of customizing an LLC operating agreement requires careful consideration of the industry in which the LLC will be operating. Certain industries come with inherent risks that require additional provisions to minimize the liability of the LLC and its members. In most cases, these specific concerns will be addressed in the operating agreement, which should be viewed as a living and breathing document that reflects the needs and interests of the parties involved, as their interests and goals may change over time. While the process of customizing an operating agreement covers a variety of elements, the following factors are frequently taken into consideration: Additional clauses may be added on a case-by-case basis to address other issues specific the industry or nature of the business being conducted by the LLC.
Resources for Sample Agreements
There are numerous free resources for drafting Michigan LLC operating agreements. There are also several paid resources that may offer sample agreements. Michigan law does not require that an LLC have an operating agreement; however, it does not hurt to have one. The Michigan Limited Liability Company Act, MCL 450.4101 et seq., allows the members of a Michigan LLC to enter into an operating agreement among themselves establishing the rights, duties and obligations of each member. Such an agreement may be called an operating agreement, although this is not required. Such an agreement can also be called an LLC membership agreement, operating agreement, or any name that the members decide upon.
While not required, it is very important that Michigan LLCs have a "governing" document that sets forth the various terms of how the company will operate. While an LLC may have a complex operating agreement, such as a Delaware LLC may require, a Michigan LLC often has a simple operating agreement.
Several Michigan law firms and websites provide free samples of Michigan LLC operating agreements online. Michigan provides a very basic form of a LLC operating agreement online . This LLC operating agreement is basic but also a good example of what an operating agreement in Michigan may contain.
The Michigan Legal Help website provides a template of a Michigan LLC operating agreement online. While it is a basic example, it is a good starting point for those looking for a free sample operating agreement in Michigan. Free legal websites, blogs and forms provided by Michigan law offices should be used with caution. Often these websites provide generic forms that are not jurisdictionally tailored. Many of these websites use forms from other states. While the forms may be similar, there are often differences between Michigan and other state laws. It is always best to consult with an attorney, at least initially, to make sure that you have the proper information for your Michigan LLC operating agreement.
There are also paid websites such as RocketLawyer, Nolo Press, USLegalForms.com, LegalZoom, etc., that provide sample documents for free or for just a few dollars. These websites also provide the ability to create a customized operating agreement based on information that you provide. Care should be taken when using these sites to make sure that the operating agreement is Michigan specific and reflects your LLC’s intent.