My LLC in California Does not have an Operating Agreement…So What?

My LLC in California Does not have an Operating Agreement…So What?

In January 2014, the California Legislature replaced the Beverly –Killea Limited Liability Company Act (“Beverly-Killea”) with the Revised Uniform Limited Liability Company Act (“RULLCA”) in California.

You may think this law change is irrelevant and doesn’t pertain to you. However, do you currently have an Operating Agreement for your LLC?

Many people think that all they need to do is file one piece of paper with the State and you have a valid and effective LLC. Actually, at that point you have only completed about 25% of the process and heaven forbid you actually get into a lawsuit. If you aren’t maintaining the entity as a separate and distinct enterprise, including ALL documentation…you will have NO protection whatsoever.

Moreover, it could be worse if you have other Partners/Members.

Without an Operating Agreement (the Bible or Bylaws of how your business is supposed to operate), then the rules between you and your Partner/Members default to state law AND oftentimes NOT your emails or handshake agreements.

Thus, it’s critical you understand what these new changes in the law mean especially if you are going to rely on the default provisions of the State laws. RULLCA is similar in many respects to Beverly-Killea, however, here are some major differences below:

  • Modification of Fiduciary Duties – A Operating Agreement usually specifies if members or managers can do other deals outside the LLC or whether all deals that they come across must be offered to the LLC. This is otherwise known as the corporate opportunity doctrine. The revised RULLCA restricts the ability of members and managers to waive these types of duties of loyalty, care, good faith & fair dealing. Nevertheless, if you are a member or manager that wants the freedom to do other deals outside of the LLC, you must have this clearly stated in the Operating Agreement or risk being sued by other members of the LLC for misappropriating an opportunity that belongs to the LLC.
  • Acts Requiring Vote of the Members – The new RULLCA substantially modifies the default rules for a manager’s authority to act on behalf of the LLC. In absence of such provision in the operating agreement, the revised RULLCA require unanimous consent of the members to (1) sell, lease, exchange or dispose of substantially all assets of the company, (2) approve a merger or conversion, or (3) undertake any acts outside the ordinary course of the company’s activities.   Many LLCs run by managers do not want the requirement that such acts must be approved by a unanimous vote of the members especially if some or all the members were intended to have a silent or minority role in the Company. If you are a manager of an LLC and want broad authority to sell assets, get loans, or bind the LLC to major transactions without approval of all the members, your LLC Operating Agreement must have provisions to this effect.
  • Removal of Managers – The RULLCA authorizes removal of a manager by a mere majority of the members. Many real estate partnership rely on the skill and expertise of the manager. Therefore, if you want to protect the manager’s from potential ouster by the members, you need to specifically include this in the operating agreement
  • Charging Order Foreclosure – RULLCA now provides slightly better charging order protection by requiring a creditor seeking to foreclose to meet the additional burden to show that the distributions under a charging order will not pay the judgment debt within a reasonable time. If charging order protection is important for your LLC (as it usually is), you definitely need to include provisions protecting the members from a charging order.

In summary, make sure that you implement a personalized and tailored Operating Agreement that pertains to your situation. This way, you don’t have to worry about the default rules in California and all of these crazy provisions above.

Please make an appointment with an attorney in our office to give you a draft operating agreement and tailor it to your business and partnership relationships.

[Special Co-Author Lee Chen.  A lawyer at Kyler Kohler Ostermiller & Sorensen, LLP and Manager of the Irvine, California Office…Lee assists clients all over the country in tax, business, estate and asset protection matters.  For more information visit www.kkoslawyers.com]

Mark J. Kohler is a CPA, Attorney, Radio Show host and author of the new book “The Tax and Legal Playbook- Game Changing Solutions For Your Small Business Questions”  and “What Your CPA Isn’t Telling You- Life Changing Tax Strategies”. He is also a partner at the law firm Kyler Kohler Ostermiller & Sorensen, LLP and the accounting firm K&E CPAs, LLP. For more information visit him at www.markjkohler.com.

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