The LLC is a popular way to structure a business because it provides personal liability protection to the members– like a corporation does to its shareholders–but without as many administrative formalities. But if you’re an LLC member, don’t let this lull you into complacency.
As a business owner, you’re responsible for the proper governance of the LLC. If a conflict arises—either among LLC members or between the LLC and a third party—the governing documents and methods through which the owners govern the LLC may help prevent a conflict from escalating into litigation. Even if a dispute reaches court and you cannot control the outcome, you can make sure that the LLC presents clear evidence of its intent and purpose by practicing good governance.
Good LLC governance hinges on four key practices:
Practice good record keeping
- Document key business decisions.
- Store records in a secure and fireproof place.
- Provide members with access to records as required by the LLC’s operating agreement.
- Keep the list of members and their ownership interests current.
- Keep the LLC records organized.
Don’t commingle LLC and member assets
- Keep all member and LLC assets completely separate. The initial contributions that members make to the LLC and any later contributions made after a capital call should be documented
- Make sure any loans to the LLC—and the repayment terms—are documented.
- All distributions and any advancements to members should be documented
- Members who are also employees of the LLC should receive a paycheck from the LLC payroll account like any other employee would.
Follow the operating agreement
- Do what you say you will do. Your LLC should have an operating agreement even if your state’s LLC statutes don’t require one. A well-drafted operating agreement provides a written record of owner expectations in terms of LLC structure and ownership, and business operations. The agreement is an essential tool for keeping the peace among LLC owners and restoring the peace if a disagreement arises. And, if a dispute arises between the LLC and a third party, the operating agreement may become evidence the fact finder considers to resolve the dispute.
Amend the operating agreement if the LLC is acting inconsistently with it
- If the LLC ends up in court and the intent of the LLC or its members is at issue, the fact finder will look at three main factors to make a determination: the LLC documents (the articles of formation filed with the state, the buy-sell agreement, if any, and the operating agreement), and the actions of the LLC and its members.
- When the actions of the members and of the LLC are in sync with the governing documents, a court is more likely to find an intent that corresponds to the original intent of the members when they formed the LLC. But when the operating agreement says one thing and the LLC or its members behave differently, intent is wide open for interpretation. If that happens, a court may place greater weight on the actions of the members or LLC and make findings of fact vastly different from what is found in the LLC documents, resulting in a potentially disastrous outcome.
Practicing good governance of the LLC helps make the intent and purpose of the LLC clear to its members and to outside parties. And, if a conflict goes to court, good governance provides the judge or jury with a clear picture of what the members intended for the LLC.
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