You have a great business idea, you have a business plan, now you need to form the entity to start conducting business. After reviewing the options, you have decided a limited liability company (LLC) is the best choice for you. Making the choice to create an LLC is a big decision, but there are still quite a few decisions to make. This article will walk you through the decisions you will have to make as you set up your LLC.
Decisions to Make When Filing with the State
The first thing you have to decide is the name for your business. There are certain rules for naming an LLC in Utah. The name of an LLC must contain: “Limited Liability Company,” “Limited Company,” “L.C.,” “LC,” “L.L.C.,” or “LLC”. If you want to name your LLC “Super Cool Widget,” then you have to put those labels after the name. This could be “Super Cool Widget Limited Liability Company”, or more commonly, “Super Cool Widget, LLC”, but any of those will work.
The next thing you have to decide is where your business will be located with regards to the state filing. If you have an office space, great! If you do not, you can put your home mailing address. This is primarily so you will continue to get notices and mail concerning your business, but if you ever do get an office space or a physical address where your business will be located, you will have to amend that with the state.
To file with the state, you will need to have a registered agent. This is a business or individual that is designated to receive service of process when a business entity is a party in a legal action. The registered agent must have a Utah street address. You can be your own registered agent.
One of the biggest decisions you have to make is if you want anyone else to be involved in your business. Bringing in other members or even managers can be great because there are more people to collaborate with and they will have a greater interest in the company’s success. On the other hand, members of an LLC will have membership interest in the company, which will possibly take some of the control and profits from you but will also share in any losses. How the members interact with the company can all be determined in the LLC’s operating agreement (discussed below).
You then have to decide if the business will have a perpetual duration or have a date of expiration. Putting an end date on your business is completely optional. Typically, a business will have a perpetual duration unless the business is only set up for a specific purpose, like the purchase and sale of a property.
You also have the option to state the purpose of your business entity. This is not necessary but can be useful for future situations. Most entities state that their purpose as “any lawful purpose for which a limited liability company may be organized.” This covers a business if they decide to pivot and do something other than continue in their original purpose.
Decisions to Make When Drafting Your Operating Agreement
A decision that must be made for your state filing, but will definitely impact how your company operates, is whether the company is member-managed or manager-managed. This choice will determine how decisions are made within the company and who can sign for the company when entering into agreements. Member-managed is usually the easiest way to go, but your operating agreement should be structured to make the company’s changes and decision-making as easy or as difficult as you want it to be. This structure works if you want all of the members to be involved in the business. Manager-managed is a fine way to go but can cause issues if there are changes in the personnel in the company. This is best if there are members that are passive in the business. In this situation, the managers would be active in the business and run everything. The members would be members only, without say in the day-to-day operations of the business.
Distributions and Profit Sharing
When you, and possibly other members, contribute money or property to the LLC this is called a capital contribution. Once you put in your capital contribution this typically establishes your right to a percentage of the profits and losses of the LLC. The share of the LLC is usually determined by the capital contribution but can also be changed or determined by the operating agreement. The capital contributions will have to be shown on the LLC’s books in each person’s capital account. Any distributions during the year will also be kept on the books of each person’s capital account.
An LLC must have enough money in the business to conduct normal operations, but any other amounts can be used for distributions as called for in the operating agreement. If you decide to have your LLC be taxed as a partnership, then the net income in the LLC will flow through to the members, regardless of whether distributions are made or not. You must decide whether you think the LLC will make at least enough distributions to cover income taxes that will be taken on by the members of the LLC. You can decide to do anything with distributions, net income, and profits, as long as there is not a conflict with state law and it is included in the operating agreement.
What Happens if a Member Leaves the LLC?
The terms for a buyout agreement can be written into an operating agreement providing for the possibilites that a member may die, become disabled, or want to sell their interest. There can be other events that can trigger a buyout if you wish. You will have to decide when a buyout agreement is necessary and what terms you want for when the buyout occurs.
Buyout agreements control what happens if a member wants to leave the LLC or is forced to leave the LLC. Buyout agreements will lay out whether or not the departing member can force the other members or the LLC to buy them out, who can buy the departing member’s share of the business, the price for a departing member’s interest in the LLC, and if there are other events that can trigger a buyout.
Dissolution is the first step in the termination process to dissolve an LLC. A dissolved LLC changes the purpose from the purpose stated in the articles of organization to a purpose solely for winding up and liquidating the LLC and its assets. The operating agreement will have to determine what will trigger the winding up process.
Decisions will have to be made as to how the LLC will discharge debts, obligations, and other liabilities, how to settle and close the LLC’s activities and affairs, and how the remaining assets will be distributed. Once all of winding up activities are completed, the LLC will be terminated.
For voting, you will first have to decide how LLC members’ votes will be split. This can be done by percentage or per capita. Percentage voting depends on the membership interest that member holds. Per capita voting means each person will get one vote, regardless of the interest they have in the LLC.
There are other options for voting as well. The operating agreement could be structured to allow certain members who participate in the daily business to be the ones who vote, while those who do not participate would not have voting rights.
Meetings of Managers and Meetings of Members
If the LLC is member managed, there will only be meetings of the members, but if there are managers of the LLC, there will also be meetings of managers. The operating agreement will have to lay out what types of decisions will be made at these meetings. The decisions will be made according to what positions each person holds as described below.
The decisions you will have to make regarding meetings are, first, whether the organization is member- or manager-managed. After that, you will need to decide if the LLC has multiple classes of members. These other classes of members could hold special meetings as well. Second, you will have to decide if meetings can be conducted over video conferences. Third, you will have to decide if members and/or managers will have to vote through proxy. There are other decisions about meetings, but these are the main ones that will need to be decided when drafting the operating agreement.
There are many important decisions throughout the life of the LLC that will need to be made. This is related to the previous section regarding voting. If the LLC is manager (or member-manager) managed, then the bulk of the decisions will be made by those managers. Managers will get to decide what contracts and agreements the LLC should enter into, how to manage the money in the LLC, including paying debts and determining distribution, and the day-to-day operations of the LLC.
If there are other members that are not involved in management they likely will not make many operational decisions for the LLC. All members will have some say in the over-arching decisions made by the LLC. The members will vote on decisions such as amending the operating agreement or entering into a fundamental business transaction.
A few other decisions you will have to make include when your fiscal year will end or if you want to use the calendar tax year and what kind of taxation you would like to choose. Your fiscal year usually ends at the end of a calendar quarter, March 31, June 30, September 30, or December 31. The IRS states that a fiscal year and a tax year are different, unless you choose to use the calendar year for your tax year. If your fiscal year ends on December 31, you will use the calendar year as your business tax year.
As mentioned above, you get to decide if you would like your LLC to be taxed as a partnership or as a corporation. There are pros and cons to each, and it is best to talk with an attorney and an accountant to determine what is best for your situation and business.
Setting Up Your LLC
If you need help with the state filings or with making the various decisions required as you draft your operating agreement, an attorney can help. If you have any questions about setting up a business entity, drafting an operating agreement, or navigating the decisions necessary to running your business legally, we can help. Call our office at (801) 365-1030 to speak with an attorney.