What Is An LLC Operating Agreement?
An Operating Agreement is an internal document containing all the terms and conditions the members of your LLC have agreed upon and placed in writing. It serves as an owner’s manual, providing information about the LLC’s members, purposes, and internal processes.
Does Kentucky require all LLCs to have an Operating Agreement?
The state of Kentucky does not require LLCs to have an Operating Agreement but encourages them to enforce one through KY Revised Statute Section 275, otherwise known as the Kentucky Limited Liability Company Act. The document gives LLCs many advantages that will help their business grow.
What Are The Advantages Of An Operating Agreement In Kentucky?
An Operating Agreement provides Kentucky LLCs with many benefits to make it easier and more profitable to do business in the state. Here’s a quick look at them:
Reinforced limited liability status
Your Operating Agreement will strengthen the personal asset protection your LLC gives to you. It does this by formally separating you and any co-member from the business. If your LLC gets sued for some valid reason, such as breaches of contract, it will have to pay for its dues on its own. You cannot be forced to liquidate your properties or any belongings under your name to settle your company’s obligations.
The guidelines and instructions provided in your Operating Agreement remove any confusion related to your LLC’s internal processes, such as accounting and profit distribution. This helps streamline your business operations so that you are more productive. It also reduces the chances for potential disputes to arise.
More accountability among members
An Operating Agreement becomes binding once all the members of an LLC sign it. This means you and your co-members must abide by the rules indicated in the document. Anyone caught violating them can be held liable in court.
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What Are The Limitations Of An Operating Agreement In Kentucky?
Your Operating Agreement lets you do many things with your business, but it should not be considered an all-around solution to your company’s needs. It also has limitations preventing it from being used in certain instances:
- First, an Operating Agreement cannot be used to circumvent or violate Kentucky’s existing laws. You can use it to customize how your business works, but every provision you include must not be inconsistent with Section 275.
- Second, your Operating Agreement gives you better control of your business’s internal processes. However, it does not give you power over external variables such as the state’s policies, the floods that Kentucky sees every year, or shortages in supply.
- Lastly, an Operating Agreement is not easy to make. You need to do a lot of research to understand what you must include in the document your LLC will be using and also spend time making sure its provisions cover every aspect of your business. If you decide to hire a lawyer to draft an Operating Agreement for you instead, you will need to spend a lot of money on it.
What Should You Include In A Kentucky LLC Operating Agreement?
Your Operating Agreement will serve as your LLC’s operations manual. Because of this, it must contain all the information necessary for your business to function effectively regardless of circumstance.
For example, the document must provide details that can identify your LLC and its purposes. It should also contain details that can be used to identify your LLC’s members and their respective roles and responsibilities. As its name implies, your Operating Agreement must contain all the guidelines and instructions for your company’s daily operations.
How To Form An Operating Agreement
Before you begin, study the provisions outlined in Section 275. These can serve as a basis for what you will include in your LLC Operating Agreement. You can use them as is, or tweak them slightly to suit your company’s preferences. If you run a multi-member LLC, ask all members to study the state’s laws as well.
When ready, you can create your Operating Agreement by following our tips below. You can then ask a lawyer to review your document for errors or loopholes. Doing this lets you save money. But if the task becomes too difficult, especially if you’re writing one for a multi-member LLC, we recommend hiring them to help you draft the document instead.
Details about your LLC
Start by providing details about your LLC, specifically its name and business address. Indicate the name and address of your registered agent as well, since they will receive legal documents about your business and will interact with the state of Kentucky on your behalf.
Your LLC’s purposes
After that, indicate the purposes why you formed your LLC in Kentucky. These will serve as your business’s mission and vision statements and give your company a direction to follow. Your company’s activities must aim towards the completion of the goals you had when you formed your company.
In this section, you must provide details about your LLC’s members. Indicate the names and addresses of each member, and specify their respective capital contributions and interest percentages. This part will serve as members’ proof of ownership over your LLC. It will also help them determine the amount they should expect to receive as revenue from your business.
Guidelines for membership concerns
After that, you must provide guidelines for the various concerns related to your LLC’s membership. Include instructions for adding new members, transferring existing membership interests, and how to withdraw one’s membership from the company. Discuss the consequences of withdrawing from the LLC.
You must specify your LLC’s chosen management structure in this section. This is important as it determines the roles and responsibilities of your company’s members, in addition to describing how your business will be operated.
In this setup, the members take on active roles and run the LLC themselves. They are involved in every aspect of the business and make small and big decisions for the company according to their personal observations.
Meanwhile, in this setup, the members entrust the business’s daily operations to people they appointed as managers. The managers are given authority over the company’s daily activities but leave major decision-making to the owners
Member roles and responsibilities
Next, you need to provide detailed descriptions of the roles and responsibilities of each member and manager of your LLC. Be as detailed as possible so as to clear any confusion regarding the tasks and expectations given to everyone. Doing this prevents most disputes from arising during the normal course of business.
Profit and loss distribution
In this section, provide guidelines regarding the distribution of profits and losses among the members of your LLC. While these are normally divided and distributed according to membership interest percentages, you can tweak this as long as all members approve the changes. Specifying how and when distributions are made clears up any confusion and prevents potential related conflicts.
Your LLC’s accounting system
Include a description of your LLC’s accounting system. State your LLC’s chosen tax treatment and fiscal year. Specify how your business monitors cashflow and keeps records of all financial transactions. Indicate how your company collects all of this data, analyzes it, and then provides financial reports to all members. Investors will look at how your LLC handles accounting concerns before investing in it.
Limitation of liability and indemnification
Your Operating Agreement must limit members’ liabilities over the LLC’s obligations. This is done by inserting provisions formally separating the company from its members–you and any co-member of your business. By doing this, the document will be able to prevent courts from ordering you to pay your LLC’s dues using your personal property or any belonging to your name.
Guidelines for solving disputes
Include guidelines for solving the disputes that arise in your business. These instructions must aim to resolve conflicts internally first before resorting to external mediation, such as from the Mediation Center of Kentucky. Having these guidelines in place will help your company become more productive.
Lastly, include guidelines for the dissolution of your LLC, just in case there’s a need for it. Your LLC can be dissolved for a number of reasons, including the resignation of a member. Providing instructions for the proper closure of your company means no debt will remain outstanding, and you won’t leave suppliers and investors hanging.
Why is an operating agreement needed?
Enforceable in Court
The terms outlined in a written LLC operating agreement is usually enforceable in a court of Law.
Opening Bank account
Certain financial institutions require you to produce an operating agreement to verify whether you have “signing power” for the LLC.
If the terms of compensation, roles, and responsibilities are mentioned in the operating agreement, it avoids disputes among LLC members in the future.
Preserve limited liability status
Especially if you are a single-member LLC, having an operating agreement helps ensure your liability status is upheld in court.
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How Much Is A Kentucky LLC Operating Agreement?
Operating Agreements technically cost nothing if you prepare one yourself. However, if you hire lawyers to help you create one for your LLC, you will need to spend up to $2,500, depending on the size of your company and the task you give to the lawyers. Thankfully, you won’t need to pay any filing fee because Kentucky doesn’t need you to submit the document.
Frequently asked questions
Single-member LLCs do not need an Operating Agreement in order to register with the state of Kentucky. However, they will need one for the many benefits that it brings. These include a reinforced limited liability status, proof of ownership over the LLC, and better control of the company.
Yes, if you include provisions allowing changes to be made to the document. All members have to approve the changes before you make them. Update your Operating Agreement to remain useful and relevant to your LLC.