When forming a Tennessee Limited Liability Company (LLC), having a well-structured and comprehensive operating agreement is crucial to ensure the security and continuing stability of your enterprise. An operating agreement is a legal document that outlines the internal operations, rights, responsibilities, and decision-making processes of the LLC.
An operating agreement is not always legally required for Tennessee LLCs. But it is often a very good idea for practical reasons. This is especially so for multi-member LLCs where there are many more variables to keep track of and deal with.
In this article, we will discuss four key aspects of a Tennessee LLC operating agreement that help an LLC run effectively.
1. Introduction of the LLC
The operating agreement should begin with a clear introduction to the LLC. It should detail the LLC’s legal name, principal place of business, registered agent, purpose, and the date of formation. Also wise to include are the business’s fiscal year, tax classification, and any additional trade names. This section establishes the groundwork for the agreement and provides essential information for both members and potential investors.
The operating agreement must align with what the LLC has in its Articles of Organization. For example, a member-managed LLC’s operating agreement should not say it is a manager-managed LLC.
It may also be wise to state certain information such as certain professionals involved in the business’s formation and/or operations. This can include your business attorney, accountant, and any other consultants involved.
2. Operating Agreements Describe Membership Structure and Roles
An operating agreement also outlines the membership structure of the LLC by specifying the roles and responsibilities of each member. This section should include details about how to bring in new members, the process for member resignation or removal, and the ownership percentage of each member.
Clearly defining the management structure, whether member-managed or manager-managed, is vital to avoid potential disputes. If member-managed, the members will handle daily business decisions. But if manager-managed, the members will have to hire a manager to oversee the LLC’s operations.
A succession plan can be a part of an operating agreement as well. This ought to coordinate with what the members’ respective estate plans are. An interest in an LLC is an asset included in a person’s estate. If a member dies, the operating agreement ought to have a process laid out for selling the member’s interest and paying the value of the share to his or her personal representative or beneficiaries.
Additionally, some members may have financial rights, but not necessarily voting rights. Laying out who these members are and clearly stating what rights such members do and do not have helps to keep all members on the same page.
3. Capital Contributions and Allocations of Profit & Loss
A well-drafted LLC operating agreement describes the capital contributions each member makes to the LLC and how members will divide profits and losses. This section should also cover the distribution of profits, including when and how distributions are available. Addressing these financial aspects ensures transparency and equity among members.
Tracking capital contributions is critical to ensure that all members’ investments are properly recorded. Should a member wish to sell his or her interest, there must be a paper trail of what that member put into the business initially, along with any additional contributions.
The allocation of profit and loss is also especially important. an LLC is a disregarded entity for tax purposes by default. The IRS treats a multi-member LLC as a partnership, and a single-member LLC as a sole proprietorship. Unless otherwise specified, under Tennessee law, members share in profits and losses equally.
If you desire something different for your LLC, your operating agreement may specify such allocation. Remember that the LLC is one of the most flexible business arrangements available—far more flexible than the older corporation form. The LLC operating agreement can even waive some provisions of Tennessee’s default laws.
4. Operating Agreements Cover Decision-Making and Voting
The operating agreement should detail the decision-making process within the LLC. This ought to highlight major business decisions that require unanimous consent versus those that are permissible with a simple majority vote. Address issues such as quorum requirements, voting rights, and procedures for resolving disagreements.
The operating agreement also ought to specify the scope of authority members and/or managers have to make business decisions. For example, an LLC may authorize its members/managers to make decisions in the ordinary course of business without requiring a formal vote. This may include routine purchases of inventory and authorizing payroll for the workforce.
On the other hand, decisions such as contracting with new vendors, signing commercial leases, and hiring management personnel likely should be up to voting members/managers. The operating agreement can specify either way.
Additionally, in an increasingly digital age, an LLC may wish to overtly allow members to attend meetings through video conferencing. The LLC’s operating agreement may permit this, or prohibit it based on what the members desire.
A clear decision-making framework prevents conflicts and promotes efficient governance. For example, let’s say an LLC has two members, each with 50% ownership, voting rights, and sharing of profits and losses. If there is no mechanism for breaking a tie vote, the business could be stuck until the parties reach a compromise.
The operating agreement can provide for remedies in such a situation. The engagement of business consultants or some objective criteria can provide a way to help break a tie and resume business decisions. Even mediation or arbitration may be on the table.
Whatever the mechanism is, the operating agreement can lay out a procedure for it so that the business can continuing operating even during disagreements.
Final Notes on Tennessee LLC Operating Agreements
A meticulously-drafted LLC operating agreement is a cornerstone of successful business management and member relations. Each LLC will have different provisions based on its operations, membership composition, and objectives. The key is to ensure that your operating agreement provides clarity among all members about how the business will operate daily and at a high level.
In an age of increasing entrepreneurship, it is vital that new businesses have internal governing structures in place that will help them through both good and hard times.
For customized assistance in drafting a Tennessee LLC operating agreement, contact Connell Law, PLLC to schedule your free consultation.