How do I write my operating agreement?
Ready to get started drafting your Operating Agreement? Let's dive into the building blocks of this essential document:
1. Name and Purpose of your LLC
You probably already know your LLC's name (you have used it when you filed your formation document in North Carolina), but here you also need to clearly communicate the purpose of your LLC. This part doesn't need fine-combed specifics; keeping the mission statement wide lets you explore new business horizons in the future without the need for amendments or refiling.
OPERATING AGREEMENT of [COMPANY NAME]
This operating agreement is adopted as of [Date] (the “Effective Date”), by [Member’s Name], an individual and the sole member (the “Member”) of [Company Name] (the “Company”).
The Member hereby adopts this agreement as the operating agreement of the Company, which agreement sets forth the entire understanding of the Member regarding its subject matter and supersedes all prior understandings and agreements regarding its subject matter.
The purpose of the Company is [Company Purpose], and the conduct of other activities as may be necessary or appropriate to promote the stated purposes, and to engage in any other lawful business or activity for which a limited liability company may be organized under the Act.
2. LLC Management - Member or Manager
This segment is where you expound on whether your LLC will be run by members or a manager. Establishing the rights and obligations of each member—covering everything from capital contributions, voting rights, and the managerial set-up—sits at the heart of this section. Even if you're a single-member LLC, articulating these points makes for a very solid foundation.
Member-Managed LLC.
The business and affairs of the Company will be managed by the Member. The vote, action, decision, or consent of the Member will constitute a valid decision of the Member and the Company. The Member may appoint one or more officers (including the Member, if the Member is an individual) who will have such powers and authority to act on behalf of the Company granted to them by the Member.
OR
Manager-Managed LLC.
The business and affairs of the Company will be managed by the manager of the Company and any successor thereto appointed by the Member, which manager may also be referred to as the Company’s president (the “Manager”). The initial Manager will be [Manager Name], who will serve until the Manager’s death, removal by the Member (for any reason or no reason), or resignation. The Manager will have the right and authority to manage the affairs of the Company and make decisions and take action with respect thereto without further approval or consent of any kind by the Member. Except as otherwise required by this agreement and in lieu of any limitations set forth in [State Name]’s laws for limited liability companies (the “Act”), the Manager will be solely responsible for and is hereby authorized to manage and operate the business of the Company. Except to the extent that the authority of the Manager is expressly limited by the Member, the vote, action, decision, or consent of the Manager will constitute a valid decision of the Manager and the Company.
3. Registered Agent
Your Registered Agent is your LLC's formal correspondence go-to. They're tasked with receiving and managing essential business documents. While this agent is identified in your formation documents you filed with North Carolina, it doesn't hurt to reaffirm this designation in your Operating Agreement for accuracy and ease of reference.
The Company’s registered agent in State is: Registered Agent Name, Address. The members may designate other registered agents or offices at any time in this state or, if necessary, in other states.
4. Duration of Your LLC
The "term of an LLC" reflects the intended lifespan of your business venture. This corresponds to what you've outlined in your formation documents and can range from indefinitely (the popular choice) to a fixed timeline or specified end date.
By default, in most states including North Carolina, LLCs are "perpetual," offering a flexible lifespan that exists solely at your discretion.
The duration of the Company will be perpetual.
5. Capital Contributions
Think of capital contributions as the nourishment that gets your LLC up and running. This is the investment of finances, property, or services you commit to for your LLC's initial operations. For single-member LLCs, you, as the sole owner, can decide the amount of capital or assets you pour into the business.
Recording your capital contributions accurately and thoroughly is crucial. It gives you a coherent snapshot of your business's financial structure and can be vital information for taxation purposes.
The Member’s capital contribution(s) to the capital of the Company for the Member’s membership interest in the Company will be reflected on the books and records of the Company.
OR
The members have made or shall make the contributions of cash, property or services to the LLC as set forth on Exhibit A attached
6. Indemnification
Indemnification clauses in an Operating Agreement essentially act as an insurance system. They shield the members of the LLC from certain expenses associated with potential legal issues arising from their role in the business. It translates to the LLC shouldering any legal fees or damages if a member is sued in relation to their performance within the business.
The agreement should lay out diligently when and under what circumstances the LLC offers this protection, and highlight any exceptions. Commonly, intentional misconduct or severe negligence is not covered under indemnification. Ensure these conditions are tailored to your business's specific risks to provide adequate protection.
The Member, the Manager, the officers, and the organizer of the Company and their respective affiliates, stockholders, members, managers, directors, officers, partners, employees, agents, trustees, and representatives (individually, an “Indemnitee”) will be indemnified by the Company against any and all losses, claims, damages, liabilities, expenses (including legal fees and expenses), judgments, fines, settlements, and other amounts arising from any and all claims, demands, actions, suits, or proceedings, civil, criminal, administrative, or investigative, in which the Indemnitee may be involved, or threatened to be involved, as a party or otherwise by reason of the Indemnitee’s status as any of the foregoing, which relates to or arises out of the Company or its assets, business, or affairs, if in each of the foregoing cases (A) the Indemnitee acted in good faith and in a manner the Indemnitee believed to be in, or not opposed to, the best interests of the Company, and, with respect to any criminal proceeding, had no reasonable cause to believe the Indemnitee’s conduct was unlawful, and (B) the Indemnitee’s conduct did not constitute gross negligence or willful or wanton misconduct. The termination of any action, suit, or proceeding by judgment, order, settlement, conviction, or upon a plea of nolo contendere, or its equivalent, will not, of itself, create a presumption that the Indemnitee acted in a manner contrary to that specified in clause (A) or (B) above. Any indemnification under this section 5 will be made only out of the assets of the Company, and the Member will not have any personal liability on account thereof.
7. LLC Tax Status
Your North Carolina LLC can be taxed under four principal categories: sole proprietorship, partnership, S corporation, or C corporation. How your LLC is taxed is determined by the number of members in your LLC and the tax status declared with the IRS.
The Operating Agreement should detail your chosen tax status along with plans for tax returns and allocations. Mapping out a plan to handle business finances—including profits, losses, dividends, and taxes—is critical for smooth financial navigation.
The Company will be disregarded for federal and state income tax purposes. The admission of one or more additional members, however, will cause the Company to be recognized for tax purposes, and to be taxed, as a partnership.
OR
The Member acknowledges that the Company has elected to be taxed as a corporation for federal tax purposes pursuant to the regulations currently in effect under Section 7701 of the Code, and to be taxed as an electing small business corporation under the provisions of Subchapter S of the Code. Notwithstanding such tax treatment, the Member acknowledges and agrees that the Company will be a limited liability company, for state law purposes, under the provisions of the Act, the Articles of Organization, and this operating agreement.
The Member acknowledges that the Company has filed or will timely file a Form 2553 (Election by a Small Business Corporation) with the Internal Revenue Service and that the election made pursuant to the filing is or will be in force and effect covering all periods since the date of this operating agreement. Except as otherwise provided in this operating agreement, during the term of this operating agreement and the continuation of the Company’s “S” corporation election under Section 1362 of the Internal Revenue Code, no Member shall take any action which would cause the revocation or termination of the Company’s “S” election (under Section 1362(a) of the Internal Revenue Code) and any attempt to take such an action will be null and void and without effect. Without limiting the foregoing, and notwithstanding any provision hereof to the contrary, any transfer or attempt to transfer any membership interest to any of the following will be null, void, and without effect:
(a) a person whose ownership thereof would cause the Company to have a number of Members and assignees of membership interests (shareholders of an “S” corporation) greater than the number permitted by Section 1361(b)(1)(A) of the Internal Revenue Code;
(b) an individual who is not a United States citizen or resident;
(c) a trust (or the trustee thereof) which fails to satisfy the requirements of Section 1361(c)(2)(A) or 1361(d) of the Internal Revenue Code;
(d) a corporation; and
(e)any other entity whose ownership would cause the termination or revocation of the Company’s tax status as an “S” corporation.
8. Profit and Loss Distributions
This section sets up the schedule for when your LLC plans to disburse profits it has accumulated. If you're the sole member of your LLC, this might seem less consequential. However, in multi-member LLCs, it helps to clarify when, how, and what requirements need to be fulfilled for these distributions to occur.
As the sole member of the LLC, the Member is entitled to all profits of the LLC and is responsible for all its losses. Profits and losses shall be determined annually and will be allocated to the Member's capital account. Distributions of cash or other assets will be made at such times and in such amounts as deemed appropriate by the Member.
9. Agreement Amendments
Change is inevitable, and your LLC agreement needs to evolve with your business. This section explains how to bring about any changes to your operating agreement. For solo entrepreneurs, this is a straightforward process. But for multi-member LLCs, it's essential to contemplate the implications of voting percentages and prerequisites for amending the operating agreement.
This agreement and the articles of organization of the Company may not be altered, modified, or changed, and no provision of this agreement may be waived, except by an amendment or waiver, as applicable, approved by the Member.
10. Corporate Formalities Waiver
Unlike corporations, LLCs are typically not required to comply with stringent corporate practices. But ignoring these formalities could potentially endanger your company's liability protection. Therefore, it's helpful to include a clause for waiving these formalities in the operating agreement.
The failure of the Company or the Member to observe any formalities or requirements relating to the exercise of its powers or management of its business or affairs under this operating agreement or the laws in the state in which the Company is which govern limited liability companies will not be grounds for imposing personal liability on the Member for liabilities of the Company.
11. Dissolution
Let's face it; not all ventures go according to plan. Thus, it's vital to have a plan B. The dissolution section guides you on wrapping up your LLC and specifies who will oversee the LLC if you're unable to do so.
Upon the occurrence of any event which terminates the continued membership of the Member in the Company, the Company will not be dissolved, and the business of the Company will continue. The Member hereby specifically consents to such continuation of the business of the Company upon any such event. The Member’s legal representative, assignee, or successor will automatically become an assignee of the Member’s interest and will automatically become a substitute Member in place of the withdrawn Member.
12. Effective Date
The effective date of your operating agreement is essentially its birthday—the day it officially comes into force.
Do I need to file my Agreement?
Contrary to your LLC's Articles of Organization, your operating agreement is an internal document that doesn't need to be filed with the state. Just make sure to sign it and stash it somewhere safe for future reference. It's that simple!
What if I need to add another member to my LLC later?
If your business blossoms to a point where you're ready to welcome another member to your LLC, you'll need to revisit and revise your agreement in line with the terms agreed upon between you and the new member. Here, you might want to draft an entirely new agreement as multi-member agreements are somewhat different from single-member agreements—another step towards your growing business!