Now all states have adopted LLC Acts, and the IRS is expected to adopt its simplification of classification of entities (the check-the-box proposal) by the end of 1996, all states will have occasion to revise their acts in 1997. Therefore, a detailed discussion of the UA is appropriate. References in this analysis are to the Uniform Act (the "UA") or to sections of the leading text on the subject, Bagley & Whynott, The Limited Liability Company, James Publishing 1996. For information on the text please call James Publishing at (800) 575-5450.
I. OVERVIEW: OPERATION
ß UA:10 Statue
The Uniform Limited Liability Company Act (1995) (herein the "UA" or the "act") was promulgated by National Conference of Commissioners on Uniform State Laws at their annual conference held in Kansas City, Missouri, July 28 to August 4, 1995. Amendments to the 1995 Act were adopted at their San Antonio meeting July 12-19, 1996. The 1995 act, with it's official comments, is included here (194k).
ß UA:15 Forms
No forms are expected from the Commissioners. The forms identified in the Table of Forms in Appendix A of Bagley & Whynott, The Limited Liability Company, James Publishing, 1996 will be helpful.
ß UA: 20 Purpose and Powers
A limited liability company may be organized under the act "for any lawful purpose, subject to any law of this State governing or regulating business." ß112(a). The UA recognizes that no additional provision is necessary for the professional LLC. The professional practice is a lawful purpose. Under the UA, the LLC has the same powers as an individual to do all things necessary and convenient to carry on its business, not limited to listed specific powers. ß112(b).
ß UA:25 Organization of the LLC: The Day One Decisions
The formation of a LLC under the UA follows the usual pattern of filing articles of organization which name the company and its agent for service and set out such additional information as might be desired by the state or by the initial members. See ßUA:220. Yet, many traps for the unwary await those who do not pay proper attention to the "day one decisions", the decisions concerning the operation and management of the business that require unanimous consent of the members. While the UA allows an oral operating agreement, the authors recommend a written operating agreement signed by all members. Upon formation of the company, on day one, each of the default provisions should be addressed. These rules "unless otherwise provided" should be discussed and accepted or changed in a negotiated written operating agreement signed by all members. The date of organization may well be the last opportunity to negotiate a unanimous agreement on anything. Failure to properly provide for the material considerations will often be the cause of business impass and failure which may result in litigation where the lawyer may be the defendant.
ß UA:30 Unique Provisions of the UA
The Uniform Act identifies a "term company" as one which expires on a date set in the articles, as opposed to a "at-will company" which means any LLC "other than a term company". ß101. See ßUA:40. Also, the act requires designation in the articles as to whether it is to be a "member-managed" or "manager-managed" company. ß203. See ßUA:60. Also, the act defines "knowledge and notice" without clarifying the key question as to whether limitations of purpose, agency and powers of public record in the articles constitute notice. ß102. See ßUA:70.
Practice Note: Since most closely held companies are member managed, this issue can be put to rest in the articles by the following provisions: Management: The Management of this company is by its members acting as a Board of Members, each voting according to their distributional interest.
The uniform act introduces unique complication in the area of members dissociation, unless otherwise provided in the operating agreement. The comment after ß601 provides:
"Although a member is dissociated upon death, the effect of the dissociation where the company does not dissolve depends upon whether the company is at-will or term and whether manager-managed. Only the decedent's distributional interest transfers to the decedent's estate which does not acquire the decedent member's management rights. See Section 603(b)(1). Unless otherwise agreed, if the company was at-will, the estate's distributional interest must be purchased by the company at fair value determined at the date of death. However, if a term company, the estate and its transferees continue only as the owner of the distributional interest with no management rights until the expiration of the specified term that existed on the date of death. At the expiration of the term, the company must purchase the interest of a dissociated member if the company continues for an additional term by amending its articles or simply continues as an at-will company. See Sections 411 and 701(a)(2) and Comments. Before that time, the estate its transferees have the right to make application for a judicial dissolution of the company under Section 801(b)(5) as successors in interest to dissociated member. See Comments to Sections 801, 411, and 701. Where the members have allocated management rights on the basis of contributions rather than simply the number of members, a member's death will result in a transfer of management right to the remaining members on a proportionate basis. The transfer of rights may be avoided by a provision in an operating agreement extending the Section 701(a)(1) at-will purchase right to a decedent member of term company.
The operating agreement is the key to avoiding the unnecessary complication of many of the default provisions. See ßUA:300. Failure on day one to execute a written operating agreement, while the members still share the same vision, will be difficult to overcome. Reliance on an oral agreement opens the door to unlimited practical concerns.
ß UA:40 Duration: Continuation
When the first US LLC act was adopted in Wyoming in 1977, the act made provision for a thirty year company life in an attempt to insure avoidance of the corporate characteristic of continuity of life. This "term company" proved unnecessary. The IRS in its 1988 and nineteen subsequent LLC revenue rulings found the corporate characteristic of continuity of life was avoided by the events of dissociation. Therefore, the state acts, and the UA, no longer require that a term be declared. Yet the UA does provide that if the company elects to be a "term-company" the articles of organization shall specify the date of dissolution, which may be continued. ß203(5) and 411. The corporate characteristic of continuity of life is avoided by the "events of dissociation" found in ß601 of the UA. See discussion federal taxation in Chapter 9 and ßUA:55.
Upon an event of dissociation the choice is to wind up, as is required by ß802(a) unless the company is continued as provided and allowed in ß411 and 802(b). Care needs to be taken in the operating agreement and in the articles to preserved protect the ability of the remaining members to continue upon he withdrawal of a member. Unless otherwise provided in the operating agreement, the default rule is that, after an event of dissolution, continuation can be accomplished only by consent of all remaining members plus the dissociated member who caused the dissolution. ß802. This default rule is much more restricted than is necessary to avoid the corporate characteristics of continuity of life. See Rev. Rul. 93-91, Rev. Proc. 95-10, Chapter 9 and ßUA:55.
Practice Note: Without risking IRS partnership tax treatment, the written operating agreement could contain a provision for: Continuation: Upon an event of dissociation (or withdrawal) of a member, the company may be continued by majority in interest of the remaining owners.
ß UA:50 Assignment of Ownership Interest
Except as provided in the operating agreement, or the articles of organization, a ownership interest is assignable. The act in ß501(b) and provides that: "A distributional interest in a limited liability company is personal property and, subject to Sections 502 and 503 may be transferred in whole or in part." Section 502 of the UA act sets out the default rule that:
"A transfer of a distributional interest does not entitle the transferee to become or to exercise any rights of a member. A transfer entitles the transferee to receive, to the extent transferred, only the distributions to which the transferor would be entitled. A member ceases to be a member upon transfer of all of the member's distributional interest, other than a transfer for security purposes, or a court order charging the member's distributional interest, which has not been foreclosed."
This default rule avoids the corporate characteristic of free transferability of interest [for discussion, see ßß2:10 and 9:20], which may be necessary to pass the four factor IRS classification test [for discussion, see ßß2:10 and 9:20]. Yet, the default rule is that, unless otherwise provided in the operating agreement, the consent of all other members is necessary for the transferee to become a member entitled to participate in management. ß503(a). This requirement also is unnecessarily high. The threshold level of approval set by the IRS to admit the assignee to membership is "majority in interest", not "all". See ßUA:100, Rev. Rul. 93-91, Rev. Proc. 94-46 and Rev. Proc. 95-10. The flexibility allowed in ß103 should be used to adopt the more flexible majority in interest standard now allowed by the IRS.
Practice Note: Without risking IRS partnership tax treatment, the written operating agreement could contain a provision for Admission of Members: The transferee of a distributional interest may be admitted to membership by a majority in interest of the members.
ß UA:55 Events of Dissociation; Continuation or Winding Up
If the corporate characteristic of continuity of life needs to be avoided for partnership tax classification, then when there is an event of dissociation of a member, the process of (1) continuation or (2) winding up needs to be addressed. See Chapter 9 on continuity of life, including ß301.7701-2(b)(1) the Internal Revenue Service Procedure and Administration Regulations.
The events of withdrawal (dissociation) to avoid the corporate characteristic of continuity of life are set forth in ßß601 and 602 of the UA. The act calls for the company to be wound up or continued upon the happening of the specific events causing a member's dissociation. Yet this is a "flexible statute", which allows parties to "otherwise provide" in a operating agreement. ß103. This means the members may elect to adopt the corporate characteristic of continuity of life or to otherwise jeopardize their partnership tax treatment.
The IRS allows the company to avoid the corporate characteristic of continuity of life with a vote to continue by a majority and interest of the remaining owners. Rev. Rul. 93-91. This flexibility is not provided in ß802(b), but the ability to otherwise provide in a operating agreement is allowed in ß103 and can be used to adopt the more flexible "majority in interest standard now allowed by the IRS. If the company is not continued after an event withdrawal, the alternative is to wind up the limited liability company's affairs and liquidate the company, as is provided in ß801. Distribution of assets upon the winding up of a limited liability company is provided in ß806.
Practice Note: Failure to properly continue, or to not continue within the time allowed, may be fatal. Absent provision for resurrection, the result may be in a loss of limited liability.
Practice Note: Without jeopardizing partnership tax treatment written operating agreement may include a provision that: Continuation: After an event of dissolution the remaining owners may by a majority interest vote elect to continue the company.
ß UA:60 Management
Management by members is important if the corporate characteristic of centralized management needs to be avoided to assure partnership tax treatment. The UA in ß203(6) requires a declaration, in the articles of organization, as to "whether the company is to be manager-managed, and if so, the names and addresses of each initial manager." The requirement of listing names and addresses of any managers is continued in the annual report. ß211(a)(4). Under the UA, it appears that if the management is retained by members, that the names and addresses of the members need not be included in either the articles or the annual report.
Note: Some states have modified the UA to require that if management is retained by the members, then their names and addresses are required. See, for example, Hawaii.
A manager need not be a member of the company and management need not include all members. Yet, management that is participated in by all members may be important to protect partnership tax treatment. See discussion in Chapter 9 of this book and Rev. Proc 95-10 on management.
Practice Note: If possible, the corporate characteristic of centralized management should be avoided to protect partnership tax treatment. A clause in the articles can provided: Management: Management of the company is by its members acting as the Board of Members, each voting according to their ownership interest.
ß UA:70 Agency: Notice
Each manager (member or not) is an agent for the LLC for the purpose of its business of affairs. ß301 and 302. However, the act does not prohibit some restriction on this agency authority. Generally, the company will not be bound by unauthorized acts with "persons having knowledge of the restrictions". The articles of organization is the first, best and possibly the last opportunity to give notice of such restrictions. ß203(b). But see ßßUA:30 and 102 on "knowledge and notice."
Practice Note: The articles might contain a provision as follows: Agency: Management of this company is by the members acting as the board of members. Company action requires a written resolution of the board.
Practice Note: If the company is to have a limited purpose or powers, the articles are the best place to give notice of those limits. They may contain a provision as follows:Purpose: The purpose of this company is to own and operate an apartment building at 123 Main Street in Cheyenne, Wyoming.
ß UA: 80 Limited Liability
The UA provides the desired state grant of limited liability in ß303(a) and (b) which provide:
(a) Except as otherwise provided in subsection (c), the debts, obligations, and liabilities of a limited liability company, whether arising in contract, tort, or otherwise, are solely the debts, obligations, and liabilities of the company. A member or manager shall not be personally liable for any debt, obligation, or liability of the company solely by reason of being or acting as a member or a manager.
(b) The failure of a limited liability company to observe the usual company formalities or requirements relating to the exercise of its company powers or management of its business shall not be a ground for imposing personal liability on the members for managers for liabilities of the company.
Section 203(a)(7) of the act states that the articles must set forth "whether one or more members of the company are to be liable for its debts and obligations under section 303(c)." This provision is without precedent in prior LLC acts, which, by definition are designed to overcome the limitations suffered by partnerships.
The act does not continue the "party in interest" provision that is in earlier versions of the Model Act and the ABA Prototype Act, and later versions of the state limited liability partnership (LLP) acts. This provision, first found in the 1977 Wyoming LLC Act, and now in most states LLC acts, provides that a member is not a proper party to a proceeding by or against the limited liability company, except where the object is to enforce a member's right against or liability to the limited liability company.
ß UA:90 Registered Office and Agent
All states, and the UA, require that the company maintain a registered agent for service of process at a registered office where service can be accomplished ß107. In addition, the act require that the company must have an "initial designated office" which need not be in the state or a place of business. ß108(a)(1). See ßUA:230(3). A written statement accepting the appointment is not required.
Practice Note: Many states require that the articles should be accompanied by a written statement showing consent to appointment manually signed by the registered agent. This consent should contain language showing that the registered agent understands and accepts his duties. Obtaining such a document is a good practice that may help avoid misunderstandings.
The street address of the registered office in the state where the registered agent can be found is required in the Articles of Organization and in the annual report. ßß108, 203 and 211. Beyond acceptance of process, the act does not specify additional duties of the registered agent. The act also does not specify where required records are to be maintained, yet member access to the records is protected. ß103(b) and 408. See ßUA:110.
Note: For additional discussion of the registered office and agent, see Chapter 3.
ß UA: 100 Membership: New members
The act in ß202 requires that the Company have "one or more members", but "member" is not defined. Unless otherwise provided in the articles or written operating agreement, a member is an owner of the business who has the right to participation equally in management and share equally in distributions. ßß301, 404 and 405.
There is an important distinction between (1) the admission of assignees as members, and (2) the admission of new members who take directly from the company, if the corporate characteristic of free transferability interest is to be avoided. See: discussion, in Chapter 9. Under the act, members can control the admission of new members in a operating agreement. ß103. However, unless otherwise provided, admission of a new member who either takes directly from the company or as an assignee requires the written consent of all members. ßß404(c). This allows one person to veto growth that may be desired. The vote of a majority in interest of the remaining member satisfies the IRS standard to avoid the corporate characteristic of free transferability of interest. Failure to take advantage of the greater flexibility allowed in a written operating agreement may have serious future consequences.
PRACTICE NOTE: Membership admission and transferability of interest are important and transferability of interest are important issues in maintaining partnership pass-through tax treatment. See Rev. Rul. 88-76, Rev. Rul. 93-91 and Rev. Proc. 95-10. Careless drafting may result in unnecessary "corporate characteristics" and loss of the IRS benefits that make this entity so attractive. The written operating agreement should contain a provision that: Membership: New members may be elected by a majority in interest of the members.
The UA default rule found in ß404(c) and 503 requiring unanimous consent is a more stringent standard than is required by the Internal Revenue Service. See Rev. Proc. 94-46 for a "majority in interest" definition. The flexibility allowed found in ß103 of the act, by otherwise providing in a operating agreement, makes possible this adoption of this relaxed standard while still avoiding the corporate characteristic of free transferability of interest. See Rev. Rul. 93-91. A lesser standard may be desired and adopted for admission of new members who take directly from the company. See ßUA:50.
ß UA:110 Records
While it does not specify what records are to be maintained or where they are to be found, the act in ß103 provides that the Operating Agreement may not "unreasonably restrict a right to information or access to records under ß408. The members right to information as set out in ß408 requires that:
(a) A limited liability company shall provide members and their agents and attorneys access to its records, if any, at the company's principal office or other reasonable locations specified in the operating agreement. The company shall provide former members and their agents and attorneys access for proper purposes to records pertaining to the period during which they were members. The right of access includes the opportunity to inspect and copy records during ordinary business hours. The company may impose a reasonable charge, limited to the costs of labor and material, for copies of records furnished.
(b) A limited liability company shall furnish to a member, and to the legal representative of a deceased member or member under legal disability:
(1) Without demand, information concerning the company's business or affairs reasonably required for the proper exercise of the member's rights and performance of the member's duties under the Operating Agreement or this act; and
(2) On demand, other information concerning the company's business or affairs, except to the extent the demand or the information demanded is unreasonable or otherwise improper under the circumstances.
(c) A member has the right, upon a signed record given to the limited liability company, to obtain at the company's expense a copy of any written operating agreement in record form.
Note: For discussion of the importance of keeping records, see Chapter 7.
ß UA:120 Annual report
Many states do not require an annual report from LLCs. However, the UA requires an annual report setting forth all information required in the Articles of Organization. ßß211 and UA:230.
ß UA:130 Conversion and Merger
The act provides for conversion of partnerships to LLCs, and for the merger a LLC with one or more other business entities. ßß901 to 907. Unless otherwise provided in the operating agreement or articles of organization, the merger or consolidation must be approved "by all the members", or, in the case of a foreign entity, "by the vote required for approval of a merger in the state or foreign jurisdiction in which the foreign (entity) is organized." ßß 904(c).
Unless otherwise provided in a operating agreement, the rights of objectors include the ability to veto the merger, or the right to resign as a member and receive any distribution provided in section 701. See Rev. Rul 95-37 dealing with conversion of a partnership to a LLC. See the discussion in Chapter 6.
ß UA:140 Name
Under the ß105 of the UA, the Limited Liability Company name must contain the words "limited liability company" or "limited company" or abbreviations. No special requirement is made in the name for a LLC providing professional services. See UA:230(1).
ß UA: 150 Distributions and Allocations
Under the UA, if the operating agreement does not provide for distributions, then the "default rule" is that "any distributions made by the LLC before its dissolution and winding up "must be in equal shares." ßß405 (a).
Section 406(a) of the act provides that a distribution may not be made if: (1) the limited liability company would not be able to pay its debts as they become due in the ordinary course of business; or (2) the company's total assets would be less than the sum of its total liabilities plus the amount that would be needed, if the company were to be dissolved, wound up, and terminated at the time of the distribution, to satisfy the preferential rights upon dissolution, winding up, and termination of members whose preferential rights are superior to those receiving the distribution.
Distributions or allocations of income other than in equal shares requires a unanimous agreement in the operating agreement, as provided and allowed in ß103(a), or by unanimous consent at the time of distribution. Typically, the profits and losses of a limited liability company are allocated at the time determined by a majority and on the basis of the agreed value of the contributions of each member as stated in the records of the limited liability company, yet the "distributional share" can be otherwise allocated subject only to IRS limitations. See Chapter 9.
ß UA: 160 Foreign LLCs
A foreign LLC must obtain a Certificate of Authority to transact business in the UA state. ßß1002 and 1004. A foreign LLC "doing business" in UA may not maintain any action, suit or proceeding in the state until it is registered with the appropriate agency. ß1008. To assist the foreign businesses in determining when they are transacting business in state, the Act lists activities that do not constitute transacting business. ß1003.
ß UA: 170 Disclosure of Members.
The names and addresses of the members of the company are not required to be disclosed in the articles of the company. ß203(b). The articles and the annual report require disclosure of the names and business address of all managers. ß210(a)(4). Managers can be artificial entities, and there is no requirement to identify owners of entity owners. See ßUA:60 and 230.
ß UA: 180 Rights of Creditors
A judgment creditor of a member may obtain a charging order to charge the distributional interest of the judgment debtor to satisfy the judgment. ß504(a). The charging order is also a lien on the member's distributional interest which may be foreclosed. ß504(b). The statute states that it is the exclusive remedy for a creditor to collect against the debtors distributional interest. ß504(e).
II. FORMATION - THE ARTICLES OF ORGANIZATION
ß UA:220 "Opt-In" feature.
The UA is premised on the drafting concept of "opt in" features. The articles may contain provisions permitted to be set forth in the Operating Agreement or other matters not inconsistent with law. ß203(b). This provision permits the drafter an opportunity to be creative by including notice of restrictions and limits as governance in the articles of organization. See UA:30 and UA:70.
Note: The filed articles of organization is the best way to give notice to third parties of company purpose and limits.
ß UA:230 Contents of the Articles
Under the UA the articles of organization must set forth (1) the company name; (2) the name and street address of the initial agent for service; (3) the address of "the initial designated office"; (4) the name and address of the organizer(s). If a limited duration is desired, or if management is delegated, or if their is cause to waive limited liability, then the articles must provide (1) if the "duration" of the company is for a specified term, the period specified; (2) if the company has managers, the name and address of each manager; and (3) if one or more members are to be liable for the debts of the company. ß203. Consideration should be given to other matters allowed by ß203(b). See ßUA:30, UA:70 and UA:300.
1. Name of LLC.
The name of the Limited Liability Company which must contain the words "limited liability company" or "limited company" or the abbreviations. The name must be "distinguishable upon the records of the state office". ß105. The name may be reserved for 120 days. ß106. See ßUA:140.
PRACTICE NOTE: Failure to use the proper name in the commercial setting may result in the imposition of personal liability. It is good practice to advise clients, in writing, to always clearly disclose their association and position in an LLC when signing documents (i.e. "Sam Jones, Member, Sam's Limited Liability Company"). The Nevada Act, for example, requires that the identification "limited liability company" appear after the name of a limited liability company on all correspondence, stationary, checks, invoices and all documents and papers executed by the limited liability company. This practice should be recommended by all attorneys.
2. Registered office and agent.
The articles must state forth the name and street address of the registered agent for service of process for the company. ß203(3). See ßUA:90.
3. Initial Designated Office.
Under the UA, the articles shall set forth the address of the LLCs "initial designated office", which may, but need not, be a place of its business or the location of the registered agent. There is no requirement that this office be in the state, or that it be used for retention of records. Its purpose is not identified. ßß203(a)(2) and 408.
4. Organizer.
The LLC organizer, like the incorporator of a corporation, is usually the attorney or agent of the members to assist in formation of the business. The organizer need not be an owner.ß202(a).
5. Management.
The default rule is that management of the business or affairs of the company is vested in the members. ß203(a)(6). If management is by managers there is a requirement that the articles declare this to be a member-managed company and that the names and addresses of each initial manager be given in the articles. Also, disclosure of the name and addresses of the managers is required in the annual report. ß210.
6. Duration.
If the company is to have a specific date of dissolution, the articles shall set forth that date. ß203(5). Otherwise the company will continue until otherwise terminated by agreement or operation of law. See ßß601 to 704 and ßUA40.
7. Other matters.
The articles of organization may contain such other matters as the members desire to include. ß203(b). If the company is created for a limited purpose, this is the best and only place to give notice of that limited purpose. Additional examples are contained in the list of default rules found at UA:300.
PRACTICE NOTE: While limited disclosure is required in the articles, they do provide an opportunity to focus upon and to announce the purpose of the company, if it is created for a specific purpose. They also provide the first and best opportunity to give notice of limitations on the authority of some or all of the members or managers to bind of the LLC.
ß UA: 240 Filing
One or more persons may form a LLC by signing and filing articles of organization with the Secretary of State. ß202(a). The "organizer" need not be a member. The articles of organization need to be signed by an "organizer" and delivered to the office of the director for filing with the $100 filing fee. ß202, 206, and 1301.
PRACTICE NOTE: An LLC with two or more members will be eligible for partnership tax treatment by the IRS. A one member LLC will be eligible for proprietorship tax treatment.
ß UA:260 Amendment of Articles.
The articles of organization may be amended at any time for any purpose by filing Articles of Amendment in the state office. ß204. The filing of Restated Articles of Organization is allowed. ß204(b). Absent other provision in the operating agreement, the articles may be amended only with the consent of all members of company. ß404(c)(3).
ß UA:270 Disclosure of Members
The names and addresses of the members of the company are not required to be disclosed in the articles of the company. ß203(b). The articles and the annual report require disclosure of the names and business address of all managers. ß210(a)(4). Managers can be artificial entities, and there is no requirement to identify owners of entity owners. See ßßUA:70 and 140.
III. OPERATING AGREEMENT PROVISION
ß UA:280 The Operating Agreement and Default Provision
"Operating Agreement" is the agreement of the members "concerning the relations among the members, managers, and limited liability company. The term includes amendments to the agreement". ß101. Section 103(a) of the act provides all of the members of that the company "may enter into an Operating Agreement, which need not be in writing, to regulate the affairs of the company and the conduct of its business, and to govern relations among the members, managers, and the company."
The act contains many default provisions which are not desirable in most cases, but which govern "unless otherwise provided". See ßUA:300. Section 103(a) supplies the key to the needed flexibility when it provides: "To the extent the Operating Agreement does not otherwise provide, this chapter governs relations among the members, managers, and Company." To not "otherwise provide in a written operating agreement is probably malpractice. The attorney has no better vehicle in which to make a record of advising concerning the many critical default provisions. Section 103(b) provides that the operating agreement may not: (1) unreasonably restrict a right to information or access to records; (2) eliminate the duty of loyalty under section; (3) unreasonably reduce the duty of care under section; (4) eliminate the obligation of good faith and fair dealing; (5) vary the right to expel a member by judicial determination; (6) vary the requirement to wind up the limited liability company's business in a case specified in section 801(4) or 801(5); or (7) restrict right a person or third parties other than a manager, member, and transferees of a members distributional interest.
In adopting the uniform act, Hawaii wisely elected to require that the operating agreement be in writing. To otherwise provide opens a Pandora's box of problems and opportunities for fraud.
Note: Reliance on an oral operating agreement is a serious mistake. See: ßß200 and UA:280. The first paragraph of the written operating agreement should provide that: To regulate the affairs of the company and the conduct of its business, and to govern relations among the members, managers, and company, this company will have a written operating agreement, signed by all members, which shall not be amended except by a written amendment signed by all members.
ß UA: 290 Importance of a Written Operating Agreement
The operating agreement is a contract of the parties which should be negotiated, in writing, and signed by all members. It serves to replace the partnership agreement and the corporation bylaws. Among other things, it should address all default provisions. It is the place to deal with all matters necessary and important for the management and operation of the company, including the default rules. (UA:300). It is also the place for provisions dealing with partnership taxation matters. See Chapter 9. Matters that should be in writing include:
Members rights to distribution upon withdraw, if any.
Voting percentages required for certain actions.
Whether voting should be weighted by ownership interest or some other formula.
Managements rights, duties and limitations.
Provision for allocations and distributions.
Provisions for setting out criteria for removal of managers or members.
Provisions for indemnification, if any.
Provisions that deal with the IRS classification criteria to assure favorable tax treatment.
Provisions for distribution of property upon winding up and capital accounts provisions.
ß UA: 300 Default Rules: A Checklist
The UA contains many "default rules" which govern if the draftsman either fails or intentionally chooses not to "otherwise provide" certain matters in a operating agreement. A detailed understanding of what happens "unless otherwise provided" is a great advantage in negotiating an operating agreement.
Practice Note: Since ß103 is specific that the "opt-in": choices be in the operating agreement, it would be best to not rely on the exercise of such choices only in the articles without also including backing it up in the operating agreement.
CAUTION: Because members may neither intend nor desire the course of action prescribed by a default rule, careful attention to the statute is required when
drafting the articles and the operating agreement. Failure to address these matters in a written operating agreement will cause serious restrictions on the company.
Unless otherwise provided in the articles or operating agreement, the following default rules govern the relations among the members, managers, and company;
Unless it otherwise provided in the articles, it will be presumed that the company is organized for all lawful purposes and with all lawful powers. If a more specific purpose or limitation of power is intended, the articles provide the best opportunity to give notice. ßß112(a) and 203(b). But see ß102 on "knowledge and notice".
Unless otherwise provided in the articles, each member is an agent of the company. ßß301(a)(1) and 301(c).
Unless otherwise provided in the articles, the Company shall indemnify a member and manager for liabilities incurred in the ordinary course of business or for the presentation of business property. ß403(a).
Unless otherwise provided, a member is not entitled to remuneration for services performed for the company, except for services of winding up the company. ß403(d).
Unless otherwise provided, in a member-managed limited liability company each member has equal rights in the management and conduct of the company's business and most matters relating to the business of the company may be decided by a majority of the members. ß404(a).
Unless otherwise provided, a manager-managed company the manager(s) have the exclusive authority to manage and conduct the company's business; and, most matters relating to the business of the company may be exclusively decided by the manager or, if there is more than one manager, by a majority of the managers. ß404(b).
Unless otherwise provided, a manager shall (1) be designated, appointed, elected, removed, or replaced by a vote, approval, or consent of a majority of members; (2) be qualified to transact business in this State if the manager is an entity; and (3) remain in office until a successor has been elected and qualified, unless the manger resigns or is removed sooner.
Unless otherwise provided, the following matters, according to ß404 the following matters require the consent of all members of the Company:
(1) Amendments to the operating agreement;
(2) Authorization or ratification of acts or transactions which would other wise violate the duty of loyalty;
(3) Amendments to the articles of organization;
(4) Compromising an obligation of a member to make a agreed capital;
(5) The compromise, as among members, of an obligation of a member to return money or other property paid in a wrongful distribution;
(6) Make a distribution;
(7) Admission of a new member;
(8) Use of the company's property to redeem an interest subject to a charging order;
(9) Consent to dissolve the company;
(10) Waiving of the right to have the company's business wound up and the company terminated under section 802(b);
(11) Merging the company with another entity;
(12) Selling, leasing, exchanging, or otherwise disposing of all, or substantially all, of the company's property with or without goodwill.
Unless otherwise provided, distributions and allocations are in equal shares. ß405.
Unless otherwise provided, the members fiduciary duty to the company and to other members is limited. ß409.
Unless otherwise provided, a vote of all remaining members is necessary to admit an assignee as a member. ß503.
Unless otherwise provided in the written operating agreement, a vote of all remaining owners is required to continue after an event of dissolution. ß802(b).
Unless otherwise provided in the written operating agreement or the articles of organization there will be only one class of members. Note, however, assignees (transferees of a members interest not voted on as members) are a new class of owners.
IV. RECOMMENDED CHANGES
ß UA: 310 Housekeeping Amendments
Suggested amendments, to the UA, include (1) require that the operating agreement and its amendments be in writing and (2) adopt a majority in interest vote of the remaining owners default rule to continue, to exercise the latitude allowed in Rev. Rul. 93-91, and (3) adopt a majority in interest vote of the remaining members default rule to admit a transferee as a member to exercise the latitude allowed in Rev. Rul. 9391.