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Why newly formed LLCs need an operating agreement

Some people who are forming a limited liability company (LLC) balk at the idea of creating a written operating agreement. They believe it is too large of a cost for a new company, and the agreement can always be written at a later date.

The reality is that it is important for LLCs to take the time and ensure they have an operating agreement in place.

What is an operating agreement?

In an LLC, the operating agreement dictates the rules surrounding the operation of the business. These rules may include information about the managerial structure of the business, profit-sharing rules and processes that articulate what should occur if an owner wants to leave the business.

There are a number of key elements that are commonly included in operating agreements. Depending on the needs of your business, you may wish to include some of the following:

  • Ownership percentages of each member of the LLC
  • Voting rights for members
  • Rules for company meetings and voting
  • Rights and responsibilities of each LLC member

Why newly formed LLCs should have an operating agreement

Having a comprehensive operating agreement in place provides better protection for all members of the LLC. As with many important legal documents, the sooner you can finalize it, the better off your business will likely be.

One reason to put the operating agreement in place early in an LLC's life is that each party is on a relatively level footing. In other words, as business decisions succeed or fail over time, some parties may have an advantage when it comes to negotiating an operating agreement that they otherwise would not have had if the agreement had been defined at an earlier time.

Furthermore, delaying the creation of the operating agreement can make it more difficult for all parties to reach a final decision. When discussion of the operation agreement occurs after a period of time, that conversation is likely the result of a change of circumstances or a disagreement among members of the LLC. This makes reaching a consensus increasingly challenging and can prevent any sort of agreement from being reached.

When starting a new business, forming an LLC can be advantageous depending on your and the other members' goals. Ensuring all of the appropriate legal documents are in place can help avoid a serious disagreement from derailing the future success of the business.

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