What is an Operating Agreement?
By: Colton Powell
What is an operating agreement and why do you need an operating agreement for your LLC? Many business owners decide to structure their businesses as a limited liability company (LLC) because of the liability protections and other benefits this type of entity has to offer. Unfortunately, many of these same business owners will just file the necessary paperwork with the Arizona Corporation Commission themselves and not think much about it after their entity has been formed. This can be a big mistake. Follow along as we discuss the ins and outs of operating agreements and why it’s almost always a good idea to have one:
So, exactly what is an operating agreement? An operating agreement is essentially the governing document for your LLC. It lays the ground rules on matters such as how the business should managed, how decisions should be made, and how disputes between members should be resolved. In other words, it is basically a contract between you and your business partners (the other members) that is binding once signed by all the members. In Arizona, you are not required by law to have an operating agreement. However, for the reasons we discuss here, it is almost always best practice to have an operating agreement for your LLC.
What is an Operating Agreement and What Sorts of Things Are Included in an Operating Agreement?
An operating agreement covers general affairs for the LLC and often includes the following provisions: each member’s ownership interest in the business; members’ duties and responsibilities; voting rights for the members; various powers of the members; how profits and losses should be split between the members; when meetings should be held and how often; how the LLC should be managed (either by the members themselves or by a specific manager); terminating and winding-up the LLC’s business affairs.
What Happens if I Don’t Have an Operating Agreement?
Now that you know the answer to the question of, “what is an operating agreement?” you might be wondering, is it too late to create one? What happens if I don’t have an operating agreement? The problem is that if your LLC does not have an operating agreement, it will be subject to the default rules that the Arizona legislature has set forth by statute. To further complicate matters, Arizona overhauled its LLC laws in 2019 (went into effect in 2020) which marked a dramatic turn from previous law. As you can imagine, these default rules do not always lead to the best outcomes for you and your business. Fortunately, however, Arizona law permits business owners to create many of their own rules for how to operate and manage their LLCs via an operating agreement which can override the default rules. Even if you have had an LLC for many years, you can still create an operating agreement.
Concluding Thoughts
It is always best to plan for the road ahead, and an operating agreement allows you to do just that. Whether you’ve already formed your LLC or you are thinking about creating one, it is crucial to have an operating agreement in place so you aren’t left to the whims of the default rules. Call us today to schedule a free 30-minute consultation – we can determine what your specific needs and goals are, draft an operating agreement that reflects those needs, avoid unintended consequences of the default rules, and help you take your business to the next level!