Unlike most states, New York requires all limited liability companies (LLCs) to have a written operating agreement. When should you update your LLC operating agreement? You may need to update this operating agreement as your business structure, ownership, or corporate governance procedures evolve, but there are a number of complexities to consider before doing so.
A business law attorney from Weberman Business Law P.C. can review your LLC operating agreement to advise you about your legal options for protecting your business. Here’s what you need to know about these agreements.
Major Business Milestones That Signal It’s Time to Review Your LLC Operating Agreement
Your LLC operating agreement creates the relationship among the LLC’s members. It also guides the members in their interactions with the LLC and explains how the members will manage the LLC’s operations.
Your original operating agreement was created based on your original expectations and needs. Some business milestones that may call for a review of this document include the following:
- Changes in ownership, such as adding or removing LLC members
- Updates to the handling of debt or capital contributions
- Alterations in voting shares or issues that require a membership vote
- Shifts between manager-managed and member-managed structures
- Changes to financial provisions, such as valuation methods, member distributions, and tax elections
Generally, these changes should prompt an LLC operating agreement review, but they don’t necessarily require an amendment or update to your LLC’s agreement.
In some cases, an existing operating agreement will already address these issues. But when the original agreement contains terms that have become outdated, a new or amended agreement may be required to accurately reflect the new business structure or its operations.
A review of the entire agreement can help your LLC and its members avoid legal disputes. If your company’s structure, voting, or ownership changes, and you fail to enact an LLC operating agreement amendment or update, your company may face a lawsuit over member rights.
Ownership Changes That Should Prompt an LLC Operating Agreement Amendment or Update
Most LLC agreements address the process for adding and removing members, as well as how the ownership and voting shares of the remaining members will be redistributed. This allows the existing LLC members and any potential investors to understand the consequences of buying or selling membership shares.
So when should you update your LLC operating agreement to reflect ownership changes? The answer depends on the LLC member changes operating agreement terms. Normally, though, the following ownership issues may require an update to the agreement:
- Limiting the inheritability or transferability of LLC ownership shares
- Changing the valuation method used when a member’s share is transferred or sold
- Altering the handling of votes when a member becomes incapacitated
- Updating how the company distributes or reinvests profits
Sometimes, unique ownership situations arise that even the most well-written agreements don’t address. When should an LLC operating agreement be updated in these situations? That is where an amendment comes in. For instance, suppose two members marry and want to combine their ownership shares. You may need an amendment if your agreement does not address this unusual situation.
Similarly, you need to update an agreement when the members agree to handle an issue differently than the original agreement requires.
For example, your agreement might allow inheritance of membership certificates upon death. But if the members later decide that they do not want an LLC member’s heirs to gain ownership or voting interests, they may agree to change the agreement to buy out a member’s share upon death rather than allowing it to pass to the heirs.
If the LLC agreement accurately and adequately covers the proposed ownership change, though, you can often leave it in full force without any changes.
Operational Changes That May Require New Agreement Terms
An LLC’s members or managers control its day-to-day operations. Your agreement may address these operational matters loosely to allow flexibility in responsibilities and obligations.
When should you update your LLC operating agreement to reflect operational changes? LLC ownership changes operating agreement amendments may be required when you alter the key details of management responsibilities, including adding or removing a member’s or manager’s tasks.
Suppose one member was an accountant. The members originally agreed that the member’s contribution to the LLC would include accounting services. If the member leaves the company, the company may need to reallocate those responsibilities to another member. In a similar vein, if the accountant decides not to provide accounting services to the company anymore, they may be required to take on new responsibilities.
One change that may require you to update your agreement and notify the state is a change between member- and manager-managed operational structures. Specifically, New York LLC operating agreement requirements mandate that you report changes to the management structure.
These management types are fundamentally different. In many cases, you may need to replace your agreement entirely rather than enact a simple amendment when you change from manager-managed to member-managed or vice versa.
Another operational change that may require an amendment occurs when the members change how or when to distribute revenue. These changes may be mandated due to other financial changes that need to be addressed in an amendment. The company might take on debt, accept outside investment, or alter its operations, which require changes to its financial structure.
How Tax Elections and Regulatory Changes Can Affect Your Current Operating Agreement
Legal or regulatory obligations may also require you to update LLC operating agreement terms. Changing your company’s tax election from pass-through to corporate taxation may require an amendment to how profits are distributed.
You may need to update your agreement when government regulations change. Highly regulated industries, such as alcohol and gambling, may mandate certain governance and compliance structures. For example, some members might need to be licensed by the state in these industries. Your LLC may need to evolve as the regulations covering these industries change.
In addition to regulatory changes, you could need to update your operating agreement to accommodate business ventures. Specifically, lenders, outside investors, and customers may require an amendment to your operating agreement. If your company becomes a government contractor, for instance, you may need to amend the agreement to comply with your contract.
Similarly, when you take out loans, the lender will often review your LLC operating agreement and suggest changes to adequately protect their interests.
The Step-by-Step Mechanics of Drafting and Approving an Internal Amendment
Your agreement will likely address how to pass an LLC operating agreement amendment, but a typical process includes steps like these:
- Reviewing the existing agreement to determine how it covers the issue that triggered the amendment
- Evaluating the procedure in the existing agreement for revising an LLC operating agreement term
- Discussing language with your attorney to cover the issue that meets the LLC operating agreement legal requirements
- Working with your LLC attorney to draft and revise the proposed LLC operating agreement changes
- Presenting the proposed language in the business operating agreement update to the other members
- Discussing any comments or suggestions from members about the operating agreement drafting or updates with your LLC lawyer
- Holding a vote on the proposed amendments to the LLC governance documents
If the vote succeeds, you will circulate a copy so you can obtain an operating agreement dated and signed by each member. All of your company’s members must sign the new or amended agreement for it to be valid and enforceable.
If the vote fails, you will need to work with your LLC operating agreement attorney in New York to further revise the proposed language.
Why Relying on Generic Free Templates or Verbal Agreements Creates Dangerous Loopholes
Amending an LLC operating agreement in New York requires more than simply filling out a form. Operating agreements are tailored to your specific company and its needs. No template can fully capture the terms you reached with your business partners. Instead, it is usually best to consult a lawyer who can draft a new or amended agreement to address your unique situation.
Relying on form templates can create several issues. First, you may use language that does not accurately reflect the terms agreed upon or their intent.
This creates an interpretive issue in any dispute because a court is usually bound to enforce clear and unambiguous written terms without considering outside evidence. Thus, you and your partners may be held to the template’s terms, even though they do not handle the issue the way you intended.
Second, templates do not necessarily comply with the most current laws or best practices. A lawyer who routinely works with LLCs will know how to amend an LLC operating agreement in compliance with current New York laws and practice.
Verbal agreements raise even more dangerous issues. Since New York law requires written operating agreements, a verbal amendment won’t be enough to satisfy the law. Additionally, without any written terms, disagreements may arise about what was agreed upon.
How to Properly Execute, Store, and Distribute Your Newly Revised Legal Records
The steps for how to update an LLC operating agreement culminate with the signatures. Generally, members can sign and date separate copies, but you may opt to have a single master copy for the company’s records. In this situation, you might call an in-person member meeting to hold a vote and sign the amended or new agreement upon approval by the members.
You will store the signed agreement just as you stored the original agreement. You may also give a copy to your lawyer for safekeeping. You should not destroy the original agreement, as you may need a paper trail to document how the agreement evolved over time to show how and why it was updated.
Make sure to provide a copy of the agreement to each member. Failing to provide copies might give members an excuse to not comply with the agreement.
When an Internal Update Requires Filing Formal Notice With State Regulators
New York law requires that certain updates be reported to the state. Any of the following changes must be filed with the New York Department of State:
- Business location
- Beneficial ownership
- Resident agent name or address
- Management structure
Your lawyer can report the changes to the state as part of their operating agreement drafting services. However, you should verify this when you approve the changes.
Contact Weberman Business Law P.C. to Discuss Your LLC Operating Agreement
Many changes to your LLC can call for a review of your operating agreement. At Weberman Business Law P.C., we focus solely on business law. Our team has years of experience representing startups and established businesses as they navigate New York’s business laws.
We can evaluate your specific situation and recommend when to amend an LLC operating agreement to protect your company’s interests. Contact us to get started today.