PLEASE, DON’T TELL YOUR CLIENT THEY MIGHT NEED AN LLC OPERATING AGREEMENT!

Come on, please don’t. You’ll take all the fun out of protracted and expensive litigation for them and business litigators like me. Ok, I’m being facetious, but only to highlight the point that without a proper, written operating agreement, your clients are unwittingly exposing themselves to potential problems that can be very expensive to try in court and to resolve.

Most businesses incorporated in Florida are closely-held, limited liability companies, thus the question often arises as to whether these entities actually need an operating agreement.  Equally so, most owners of these businesses are self-proclaimed entrepreneurs and optomists by definition.  Conequently, they don’t always recognize potential negative consequences to their actions, therefore, it is incumbent upon you as their attorney to counsel them or guide them to business counsel that can do so, if you do not practice business law.

Take, for example, two friends who decide to go into business together.  They each contribute skills and money to get the business up and running.  Inevitably, some event in the early stages of their business changes the dynamic between them.  It can range from monetary demands to difficulties with suppliers or a landlord to the perception by one that the other is not pulling their weight or even involve the incapacitation or demise of one.  Too often, these “partners” do not document or define their relationship with a written operating agreement because they did not want to incur the small expense to protect their investment, did not see the value in spending the money to do so, or even believed that the strength of their friendship would carry them through any difficulties.  Thankfully, these entrepreneurs enjoy spending great sums on legal fees to achieve outcomes that they have made uncertain through lack of documentation and for that, business litigators salute them.

By way of background, an LLC is something of a hybrid between a partnership and a corporation.  It was specifically authorized under Florida law a little over ten years ago.  Chapter 608 of Florida’s Statutes controls LLCs and provides a limited amount of guidance to business owners and Florida’s Courts.  Unfortunately, the many default provisions found in Florida’s Corporate Code do not appear in the LLC Chapter.  Therefore, without specific provisions in a written operating agreement to govern the operation and dissolution of an LLC, owners of LLCs may find themselves in situations that they did not originally intend.

That said, the expense of an operating agreement prepared by counsel is not necessarily required in every instance.  LLCs can be divided into two categories; single-member and multi-member.  While a well-crafted operating agreement can never be a detriment to a LLC it may be an expense that a single-member LLC can save, depending on its circumstances.

An operating agreement can be thought of as the contract between the members of an LLC governing such topics as how members can depart the entity and what rules apply to the addition of new members, if any are allowed.  Therefore, in the case of a single-member LLC, it may not be a necessity, but in the case of a multi-member LLC, it may be a very wise business decision.  Without identifying responses to specific events, such as the departure of a member, a dispute can evolve between the members that a Florida Court can not readily or easily resolve given the lack of statutory guidance.  Even in situations where the LLC Statutes address a specific triggering event, the members of a multi-member LLC may not wish to accept the statutory default and would rather have their own method to address that situation where that is allowed.

A secondary consideration is whether to recommend to a client to use a pre-formatted, fill-in-the-blanks operating agreement or to engage competent business counsel to prepare that document.  Naturally, such a choice is a business or management decision, however, an operating agreement that is not tailored to the unique needs of a specific LLC will not be able to address those unique needs very well.  The savings your client may realize by purchasing a pre-formatted operating agreement may likely result in substantially increased expenses later if a dispute develops, which is not covered or not adequately covered by the off-the-rack operating agreement.

In the summer of 2010, the Florida Supreme Court addressed the ownership of LLCs in its Olmstead decision.  The Florida Supreme Court confirmed that an individual’s membership interest in a LLC is a property right that is subject to a judgment, even if such judgment had nothing to do with the LLC.  In response, Florida’s Legislature amended the LLC Statutes to clarify that a member’s interest in a multi-member LLC could not be seized with a judgment and only the member’s right to a distribution from the LLC could be reached.  Therefore, particularly for a multi-member LLC, failing to address this reality through a well-crafted operating agreement can lead to unintended results for the business.

Whether you practice in the business law field or deal with LLC owners in other areas of practice, it helpful to counsel them to take the time and incur the limited expense to consult with qualified business counsel to determine whether an operating agreement is appropriate to their particular business.  While it is not possible to provide general, blanket advice to a member of any LLC as to whether they need an operating agreement,  they should recognize from your counsel that a discussion with a business attorney can even help them understand whether their existing operating agreement appropriately addresses the intent of the managers and members and what missing provisions might be included to ensure the smooth operation of the enterprise and limit the costs that may be incurred in any future dispute or upon the occurrence of an event, including the demise or incapacitation of a member or manager.

Whether you practice business law or not, you are in a unique position to inform you clients that are involved in business or plan to be involved in the future that they are wise to educate themselves as to whether they need an operating agreement for their LLC.  It is a true axiom that an ounce of prevention is worth a pound of cure when it comes to what are commonly referred to as “corporate divorces”.

Visit http://davidsteinfeld.com

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