What an Operating Agreement Should Cover

An operating agreement is the written contract among the owners of an LLC. It sets the ground rules for how the LLC will run. In many states, you are not required to file it with the state, but that does not mean it is optional in practice. It is often one of the most important documents your business will have.

Your operating agreement is different from the articles of organization, which are the short formation papers filed with the state to create the LLC. The articles of organization usually contain basic facts like the LLC’s name, address, and registered agent — the person or company authorized to receive official legal and government documents for the business.

An operating agreement matters because it can help prevent misunderstandings before they become expensive disputes. Banks, investors, accountants, and attorneys may ask to see it. If your LLC has more than one owner, it is especially important to put the deal in writing early, while everyone is still on the same page.

Without a clear operating agreement, your LLC may be governed mainly by your state’s default rules. Those rules may not match what the owners actually want. For example, state law may give equal voting rights even when one owner contributed much more money, or it may not provide a practical process for an owner who wants to leave.

If you are still forming your company, these related guides may help: How to Form an LLC in the US and LLC vs. Corporation: Which Is Right.

Start with the basics. The agreement should identify each owner, who is usually called a member in an LLC, and state each person’s ownership percentage or ownership units. If one owner has 60% and another has 40%, write that clearly. Do not rely on memory or casual messages.

It should also explain what each member contributed to the business. A contribution might be:

• cash
• equipment
• inventory
• intellectual property
• services, if allowed and properly described
• a promise to contribute more later

Be specific. If one person is contributing $50,000 and another is contributing a truck worth about $20,000 plus ongoing sales work, the agreement should say that plainly. Vague language creates problems later.

The agreement should also say whether members are required to make additional contributions in the future. If the business needs more cash six months from now, are all owners required to put in more money, or is that optional? If one owner cannot or will not contribute, what happens to that owner’s percentage?

This section should also address new owners. Can the LLC admit a new member? If yes, who must approve it, and what documents need to be signed? Many disputes begin when a founder casually promises a future stake to an employee, relative, or early helper without a written process.

If your founders have not documented these points yet, a lawyer can help put the terms into a cleaner founder deal. See Partnership and Founder Agreements for that type of legal help, or get matched with a licensed attorney. FoundryCounsel is not a law firm and does not provide legal advice.

Your operating agreement should say how the LLC is managed. Many LLCs are member-managed, which means the owners run the business directly. Others are manager-managed, which means the owners appoint one or more managers to handle day-to-day operations.

This sounds simple, but it affects real business decisions. Who can sign a lease? Who can hire staff? Who can open a bank account? Who can approve a large purchase? The agreement should divide routine decisions from major decisions.

A practical agreement usually covers:

• who has authority to act for the LLC
• whether one person can bind the LLC to contracts
• what decisions require a simple majority vote
• what decisions require unanimous approval
• how meetings are called and documented
• whether owners can vote by email or written consent

Major decisions often deserve a higher approval threshold. Examples may include:

• taking on significant debt
• admitting a new member
• changing ownership percentages
• selling major business assets
• merging with another company
• dissolving the LLC

You should also include a deadlock process if there are two 50/50 owners. A deadlock is a tie that prevents action. If both owners must agree and cannot, the business can freeze. The agreement can require mediation, a neutral tie-breaker for limited issues, or a buyout process.

If your LLC will sign customer or vendor contracts, it is also smart to review your core contract setup. See Contracts and Agreements for the types of legal services owners often use.

A good operating agreement should explain how money moves through the business. That includes profits, losses, distributions, reimbursements, and bookkeeping.

Profits and losses are the business’s gains and losses for accounting and tax purposes. They are not always the same thing as cash actually paid out. Distributions are payments of company money to the owners.

Your agreement should say:

• how profits and losses are allocated among members
• whether allocations match ownership percentages or follow another formula
• when distributions may be made
• whether the LLC must keep a cash reserve before making distributions
• whether members can be reimbursed for approved business expenses
• whether any member receives guaranteed payments or management compensation

This is also where tax treatment often enters the conversation. By default, many single-member LLCs are taxed like sole proprietorships, and many multi-member LLCs are taxed like partnerships. Some LLCs elect to be taxed as an S-corp, or S corporation, which is a tax status that may allow a qualifying business to split owner earnings between salary and distributions. Others elect C-corp, or C corporation, taxation, which is the standard corporate tax system where the company itself pays income tax. Tax elections can affect payroll, self-employment tax, accounting, and owner compensation.

Because tax issues are technical, use your accountant and confirm any filing rules at IRS.gov. If you need a federal tax ID, an EIN is an Employer Identification Number issued by the IRS for business tax and banking purposes. You can learn more here: What Is an EIN and How to Get One.

The agreement should also require good records. It can say who keeps the books, where records are stored, and what financial information members may inspect. Clean records reduce disputes and make tax filing, financing, and due diligence much easier.

Many owners focus on starting the business and avoid talking about endings. That is understandable, but this is where operating agreements often matter most.

Your agreement should address what happens if a member:

• wants to leave voluntarily
• dies
• becomes disabled or unable to work
• gets divorced
• files for bankruptcy
• tries to transfer ownership to someone else
• seriously harms the business or breaches duties

A common protection is a transfer restriction. That means an owner cannot freely sell or give away their LLC interest without following the rules in the agreement. Existing owners often want a right of first refusal, meaning they get the first chance to buy the departing owner’s interest before it is sold to an outsider.

The agreement should also explain how the buyout price will be determined. This can be based on an appraisal, a valuation formula, a fixed amount updated every year, or another method. No method is perfect, but having one is usually better than fighting over price in the middle of a conflict.

You may also want a dispute-resolution process. That can include negotiation, mediation, arbitration, or court. A lawyer can explain the tradeoffs. Arbitration is a private process where a neutral decision-maker resolves the dispute outside court. Mediation is a facilitated settlement discussion where a neutral mediator helps the parties try to reach agreement.

If your business also uses other contracts, you may see an NDA, or non-disclosure agreement, which is a contract to help protect confidential information, an MSA, or master services agreement, which is a framework contract for ongoing service work, or a DBA, or doing business as name, which is a business name used publicly that differs from the company’s legal name. Those documents do different jobs than an operating agreement, but they often fit together in a growing business.

A useful operating agreement should match how your business actually runs. It should be specific enough to guide decisions, but not so rigid that normal operations become impossible.

A practical drafting process looks like this:

1. List every owner and each owner’s contribution.
2. Decide whether the LLC will be member-managed or manager-managed.
3. Separate routine decisions from major decisions.
4. Choose voting thresholds for each category.
5. Set rules for profits, distributions, reimbursements, and records.
6. Add restrictions on transfers and a buyout process.
7. Cover death, disability, deadlock, and dissolution.
8. Check state-specific rules with your Secretary of State, IRS.gov for tax questions, and a licensed attorney for legal review.

Here is a simple generic example. Two friends form a food import LLC. One puts in $80,000 and manages supplier relationships. The other puts in $20,000 and runs local sales. If they skip the operating agreement, they may later disagree about voting power, salary, and what happens if one wants out. A written agreement can say one major decision needs both votes, day-to-day purchases under a set amount can be approved by either manager, profits are split 70/30, and any departing owner must first offer their interest to the other owner.

State law matters. Some states are more flexible than others about what your operating agreement can change. For that reason, official sources matter. Formation and filing rules are usually handled through the Secretary of State. Tax rules belong at IRS.gov. If branding or trademarks are involved, check USPTO.gov. For legal drafting choices, use a licensed business attorney.

If you want help finding one, How It Works explains the process, and get matched can connect you with a licensed attorney. FoundryCounsel is a free matching service for business owners, not a law firm.

Some owners start with a template and then have a lawyer review and revise it. Others ask a lawyer to draft the agreement from the beginning. The right path depends on how many owners there are, how much money is involved, and how unusual the deal is.

Simple single-owner LLCs may have lower drafting costs because there are fewer negotiation issues. Multi-owner LLCs usually cost more because the lawyer must address ownership, control, money, exits, and state-specific rules more carefully.

As a general education point, business-law fees are often charged as flat fees for this kind of project, but the range depends on the state, the lawyer, and the complexity. A basic operating agreement review or draft may fall in a state-dependent flat-fee range from a few hundred dollars to a few thousand dollars. These ranges are not quotes.

It usually makes sense to get legal help if:

• there are two or more owners
• owners are contributing different amounts of money or labor
• one owner will manage the business and others will be passive
• the LLC expects to raise money or admit new owners later
• the business owns valuable intellectual property
• the owners want custom buyout or voting rules
• there is any concern about future disputes

You can read more about legal fee ranges here: How Much Does a Business Lawyer Cost. If you want help finding the right kind of lawyer, start with Services, Business Entity Formation, or Help.