An Overview of Virginia LLC Operating Agreements
An operating agreement is a legal document that governs the relationship of the members and managers of a Virginia limited liability company ("LLC"), and each member’s rights and responsibilities as defined by state law and company policy. It regulates the conduct of each member as they interact with each other, with third parties, and with the company. Think of an operating agreement as similar to a shareholders agreement for corporations, although for an LLC, these rules are not required by law to be in writing.
A written operating agreement is still highly recommended for LLCs though, especially given the alternative. Virginia law provides that if no written agreement is in place, or it is not comprehensive enough to account for all contingencies, state law fills the gaps with default provisions. Members may find state laws— like default profit and loss sharing, rights to distributions, and what to do about disassociation, for example—to be inconsistent with what they believe should be the "rules of the game . " Not only may it not reflect the members’ intent, the members may also have to spend time and money litigating the validity or applicability of these statutes.
Moreover, a comprehensive operating agreement governs an LLC’s internal affairs and the conduct of its business. It is the primary guide for how to operate a company, govern the relationships between its members, and how the company will operate in the future. In fact, if each member of an LLC has otherwise agreed in writing to certain terms not consistent with state laws, those written agreements will trump what is in Virginia’s statutes. Members have more flexibility to decide how they want their LLC to operate, so long as it is clearly laid out in their written operating agreement.
For these reasons, and because the future is unknown, the best course of action is to execute a multi-page, comprehensive, written, well-drafted operating agreement.
The Elements of a Virginia LLC Operating Agreement
Virginia limited liability company operating agreements are governed by Virginia’s LLC Act. The Act outlines several key provisions that are typically included in an operating agreement. However, the Act also gives members a lot of leeway to determine what goes into the agreement. Ultimately, each operating agreement is unique to each Virginia LLC and the members of each particular LLC.
Management Structure
An LLC may be member-managed or manager-managed. A member-managed structure means all members are involved in all aspects of management and operations. A manager-managed structure delegates certain management duties to one or more managers. Generally, the LLC will state which persons are managers in the articles of organization, or the members can later adopt a writing that provides for the appointment of managers. Management structure is one of the most important components of a Virginia LLC operating agreement. All members must consider how much involvement they want in day-to-day operations before forming the LLC.
Member Roles & Voting
Each operating agreement will typically specify roles and voting rights of each member. Virginia law requires a majority vote of the members to amend the operating agreement unless a greater number is required by the agreement itself. All decisions of the members require a majority of the members unless the articles or the operating agreement requires a greater percentage.
Profit Distribution
The Virginia LLC Act provides profits and losses must be allocated according to each member’s contributions to the value of the company. However, the Act does not require equal distribution of profit and losses to each member. The operating agreement can specify a series of non-monetary contributions in addition to cash and property that may be considered contributions to the LLC. The operating agreement can set up a separate formula for allocating profits to certain members even while other members receive distributions only based on their capital contributions.
Dissolution
The operating agreement can include provisions providing for dissolution under certain conditions including:
How to Draft a Sample Operating Agreement
How to Create a Sample Operating Agreement to Use for Virginia LLCs
When it comes to the drafting of an operating agreement for your Virginia LLC, you want to make sure that you are adhering to state laws and the needs of your business. For instance, if you have a traditional LLC that has numerous members, the operating agreement should be more detailed than that of an LLC with only one member.
While it can be beneficial to look at sample Virginia operating agreement templates, you want to ensure that any language that you use in your own LLC’s operating agreement is based on specifically what your company needs.
For instance, the members of your LLC might want to distribute assets and profits based on a different allocation than what is outlined in a sample operating agreement. The purpose of an operating agreement isn’t to provide a guideline for all LLCs, rather it is a way to set forth expectations among your members so that everybody knows how much money they are entitled to claim.
It’s important that you remember that there are some areas of the operating agreement that are not negotiable. The payment of taxes, for example, is one of the areas where you don’t have flexibility in how to allocate money to each member. However, how you want to allocate the profits of the company is up to you and should be considered carefully.
If you decide to start your business with the use of a sample Virginia operating agreement, you may find that you are satisfied with the end results. On the other hand, you may find that the sample agreement doesn’t satisfy the members of your company.
If this is the case, you can use the agreed-upon terms as a basis or jumping-off point for creating your own unique operating agreement that clearly states how your business will be run, the process for salting assets and profits, how to handle the dissolution of the company, how ownership interests could be transferred, and how decisions will be made. Finding a way to work together to tackle these issues will ensure that your company is ground under the correct legal structure, and that everybody’s interests are represented.
Legal Considerations for Virginia LLCs
Both general and managing members should be cognizant of particular legal considerations when addressing the specifics of any Virginia LLC operating agreement. For instance, in Virginia, while an operating agreement may disclaim fiduciary duties of managers, such a waiver does not extend to duties of good faith and fair dealing, and any other duties that cannot be waived as a matter of law. In Virginia, where the LLC fails to address deadlock and/or dissolution in its operating agreement, Virginia law defaults to a court-ordered dissolution if the LLC’s managers or members cannot agree.
The operating agreement also addresses the manner in which the funds of the LLC may be handled and distributed at the time of its winding up. Winding up is defined in Virginia law as "the process of completing unfinished business and making the distributions to members and managers required from the assets of the dissolved limited liability company" – and it is an important process. Without an operational game plan, the winding up of an LLC has the potential to give rise to unwanted litigation about unwinding your business.
Member-Managed versus Manager-Managed Virginia LLCs
The most significant structural issue you might face when forming your Virginia limited liability company is the question of whether to have a member-managed or a manager-managed structure. In a member-managed LLC, all the members, or owners, are involved in the day-to-day management of the business. Typically, an LLC will be member-managed when all members have a say in running the business and want to be involved in the process on a day-to-day basis. For example, if all the members are friends or family members who have known each other for years, a member-managed approach may work well.
On the other hand, in a manager-managed LLC the members delegate the day-to-day control of business operations to one or more managers. The managers can be members and/or non-members. A manager-managed structure is often preferred when the membership of the LLC consists of many individuals who will not participate in the regular management of the business . For example, a group of doctors starting a medical practice may opt for a manager-managed structure to enable one or two of the doctors to solely manage the business, while the others are able to focus their attention on patient care.
Whether a Virginia LLC will be member-managed or manager-managed is clearly disclosed in the articles of organization, as described above. Some of the operating agreements for member-managed LLCs, however, do not specifically state that the LLC is member-managed. Conversely, many of the operating agreements for manager-managed LLCs specifically say the LLC is a manager-managed entity. Since the determination is generally made prior to the drafting of the operating agreement, this point is somewhat academic.
Importantly, a member-managed LLC is not required to have any officers – the member(s) is the "officer by default." When a company is manager-managed, the operating agreement will usually designate some or all of the managers as officers and provide details about the roles and responsibilities of those officers.
Amendments and Revisions to the Operating Agreement
Amendments To An Operating Agreement
Your Virginia LLC’s Operating Agreement is valid and enforceable upon signing, but it does not mean that it is permanently binding. Should any circumstances change for your Virginia LLC or its members, it may be necessary to update or amend the LLC Operating Agreement. To amend your LLC Operating Agreement and to maintain protection against personal liability, follow the below procedures.
Updating the Operating Agreement will ensure that the business is in compliance with the law, that the Operating Agreement contains the most up to date information, and that both the LLC’s best interests and the members’ best interests are protected.
There are a number of reasons why you may want to amend your LLC Operating Agreement. Some possible reasons include:
Amending Your LLC Operating Agreement
Any member of a Virginia LLC may propose an amendment to the Virginia LLC Operating Agreement at any time. The process for amending the LLC Operating Agreement should be outlined in the Operating Agreement itself. If not, you will need to follow the formalities set out in the Virginia LLC Act.
As set out in Section 13.1-1041, all members must agree to any amendments of the Operating Agreement, unless the LLC Operating Agreement provides otherwise. All members must also be informed of changes to the LLC Operating Agreement. The same requirements set out above for initial ratification of the LLC Operating Agreement apply here. Be sure to use the proper manner of notice and a reasonable period of time for the members to respond.
If there is no agreement reached after the process for ratification has taken place, the proposed amendment shall be put to a vote. You will use the same procedures as you did when ratifying the Operating Agreement in order to hold the voting meeting.
Common Pitfalls
Mistake #1: Not Having a Virginia LLC Operating Agreement
Unfortunately, even in Virginia, it is very common for new limited liability companies (LLC) not to bother to have a Virginia LLC operating agreement in place. There are numerous reasons for this; however, it is important to make clear that numerous Virginia Courts have the ability to rule on what the terms of an LLC operating agreement are even when none exist. Remember that the purpose of having a properly drafted Virginia LLC operating agreement is to prevent a future dispute from occurring amongst members, managers, and other parties. The best time to think about what your LLC operating agreement should say is before there is ever a dispute, and you should seek counsel from an attorney familiar with the process of drafting such agreements, and not simply go with the first template you find online.
Mistake #2: Not Having Important Provisions Like Buy-Sell in Your Virginia LLC Operating Agreement
It is very common for Virginia LLC operating agreements to lack important provisions. Without these provisions , a future dispute could arise between the members or managers. The cost of resolving some disputes can be significant to a member’s bank account, and the emotional consequences are often worse. Remember prevention is always better than cure.
Mistake #3: Not Having Detailed Provisions in Your Virginia LLC Operating Agreement
As with most things in life, you get what you pay for with a Virginia LLC operating agreement. While it may be tempting to pay only to have a template Virginia LLC operating agreement, you do not know what you do not know. A Virginia LLC operating agreement is not something you want to review or edit multiple times or spend significant money changing at a future date. A properly drafted Virginia LLC operating agreement that takes into account your business, your members, your purpose, and your operation, and that is reviewed by multiple members, is well worth the time and expense.