Limited Liability Company

CREATING AN LLC

It is important that the organizer(s) of a prospective LLC follow the "enabling statutes" or formation laws of the state in which the company will be formed in order to be designated as an LLC. Without this designation, the company will lack the protection of limited liability and will be treated as a general partnership. Therefore, the first step in creating an LLC is to find out your state's specific enabling statutes.

The organizer does not have to be one of the company's members. The organizer's function is to file the articles of organization, a task which can be accomplished by a lawyer, a hired agent from a service company specializing in such business, or a manager of the prospective company.

Naming an LLC

Before forming an LLC, the company name must be reserved with the secretary of state or its equivalent. Most states require that the words "Limited Liability Company" or the abbreviation "LLC" be included in the name of the company. In some states, "Limited Company" or "LC" is the preferred designation. In all states, however, the name of the LLC must not resemble the name of any other corporation, LLC, partnership, or sole proprietorship that is registered with the state.

The Articles of Organization

This form, called the articles of organization or certificate of formation, must be obtained from the secretary of state's office or its equivalent, filled out by the organizer(s), and filed with the same office. A filing fee, which varies from state to state, will also be charged. This simple document requires, at minimum, the company name and address, a description of the business to be conducted, the name and address of the registered agent (the contact to whom notices of lawsuit or other official matters can be served), the names of the company's members and managers (usually the members themselves), and the dissolution date. Other information may be required, depending on which state the articles of organization are filed in. It is important that the articles describe the business in a way that will allow the Internal Revenue Service to designate the company a partnership for tax purposes, and not a corporation. In order for the IRS to do so, the articles must show that the company possesses no more than two of the following four characteristics (which describe a corporation):

• Perpetual existence.
• Centralized management.
• Free transferability of ownership interest.
• Limited liability.

One of the easiest ways to show that the LLC is not a corporation is to limit its existence. In fact, most states require that a dissolution date be determined in the articles of organization. On this date the LLC's assets will be liquidated and its business will cease (occurrences such as the mutual written agreement of the members or the death or retirement of a member may also terminate the LLC's existence before the dissolution date). If no date is specified, a default period of usually 30 years will be enacted. However, the members may decide to continue the LLC's existence at a later date.

Fees

Filing fees vary from state to state, from $50 to $500. In addition, some states require the LLC to publish an announcement of its creation to the public in a generally circulated newspaper. This latter requirement can be very expensive, ranging from $500 to $2,000.

The Operating Agreement

At the first meeting of the members, called the organizational meeting, an operating agreement should be drafted. Although each state has laws governing how LLC's should be operated, the members should create their own operating agreement to document that all members agree on how the company should be run. It should be carefully constructed with an eye to preventing future disagreements and deadlocks. Most basically, the agreement should address the division of profits, members' voting rights, and company management. A good operating agreement will address the following issues:

• Who the members are and how they will be elected in the future.
• Grounds on which members may be terminated, and procedures to execute such terminations.
• Stipulations regarding allocation of business shares after the death of a member.
• If a member becomes disabled, how will the company provide for him/her (with disability insurance or out of its own funds)?
• How managers will be selected and what their duties, salaries, and grounds for dismissal will be.
• How major decisions will be made. (Which decisions will require unanimous approval of the members and which a simple majority vote? Which decisions can be delegated to the manager in charge of daily affairs?)
• How often meetings will be held and how much notice members must receive.
• Who will keep records and how they will be kept.
• How members will invest in the LLC: will only cash contributions be allowed, or can members contribute services as well? If so, which services will be accepted and how will they be valued?
• How profits and losses will be allocated to members.
• How compensation (salary) for actively participating members will be determined.
• How new capital should be acquired should the company need it.
• What procedures must be followed to transfer interests in the company.
• What banking procedures should be followed.
• Penalties, if any, if members or managers fail to act in accordance with the operating agreement.

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