“No one ever reads these things” - how simple can an LLC Operating Agreement be?
January 11, 2022
A former colleague recently reached out asking if I had any “simple” LLC Operating Agreement templates. She had a client who didn’t want a “thesis”, didn’t understand why legal agreements had to be so complicated and was tired of being presented with documents that he’d need a law degree to decipher. He’d asked, only half-jokingly, for a one-page LLC Operating Agreement.
Operating Agreements are the constitutions of a limited liability company. They set out the relationship between the company and its members (owners), provide a framework for the company’s administration, set accounting/tax parameters, provide for a dispute resolution mechanism and determine how a member can sell his/her stake. Ideally the agreement will also contain a mechanism for handling disagreements/deadlock that is better than the “nuclear” option of dissolution. The Operating Agreement is a critical document, and yet, as one client recently pointed out to me “no one ever reads these things”. The reason they don’t read them is because they’re dense, structured counterintuitively (instead of the most important items appearing at the start of the agreement, instead we usually see a few pages of “definitions” with no instant relevance), and written in overly complicated legalese.
Having drafted/reviewed countless operating agreements, I think the problem runs deeper. In the same way that humans are each unique, so are businesses. LLCs really run the gamut - from the business of two friends selling crafts on Etsy to a holding company with billions of dollars in assets. They can have one or two members, or thousands. They can be part of complex business arrangements or simple ones. The templates used by most lawyers don’t take account of this nuance, and are comprehensive by default, as it’s better to be overly comprehensive than risk excluding necessary provisions. What we get then is a slightly tailored 40+ page template agreement that is sent to a client who is asked to “review”. No wonder the answer much of the time is “looks fine” or “I don’t really get it but I trust you”.
So how to move away form these “comprehensive” templates, or at least to simplify them? Firstly I’m a proponent of moving the “dense” stuff such as tax treatment (e.g. Treasury Regulation items) and the mechanics of distributions (i.e. distributing profit to the members) to a separate annex. Secondly, unless it’s absolutely necessary, I remove the definitions section. Many of the definitions don’t actually need to be defined and those that do can be “in-place” definitions - defined in the clause where they’re used. This ensures that the reader of the operating agreement is looking at key terms on the first page (name of the LLC, whether the member scan vote, how it is managed and the kind of business it does) up front instead of the first item being the definition of “Additional Capital Contributions” or “Affiliate”. Finally I remove anything that’s unnecessary. A clause that addresses the voting % needed to approve a sale of the company’s assets? Necessary. Minimum gain chargeback provisions addressing the allocation of non-recourse debt? Usually not necessary. The goal is to end up with an agreement that’s fit for purpose and easy to understand. While this requires the constant tweaking of templates, it pays off in client value.
