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In the Marketplace: How lawyers handle multi-member LLC operating agreements

Written by: John M. Cunningham

Published in the Concord Monitor (1/9/2021)

Last Thursday, with my colleague Amanda Nelson, I taught a two-hour webinar for 36 New Hampshire lawyers, sponsored by the New Hampshire Bar Association, on how to draft operating agreements for clients forming multi-member LLCs. (As readers will know, multi-member LLC operating agreements are, effectively, partnership agreements among LLC members about their LLC rights and duties.)

Since, over time, a significant number of readers of this column may want to form multi-member LLCs, the key points in last Thursday’s webinar, set forth below, may be of interest not only to New Hampshire lawyers but also to these readers.

■ For starters, LLC lawyers must have a thorough knowledge of the 257 provisions of the New Hampshire LLC Act relevant to the drafting of multi-member LLC operating agreements. Furthermore, they must know the distinctive nature of each of these provisions—i.e., whether they are mandatory, definitional, or default. Above all, they need to have a specific understanding of each of the 53 default provisions in the New Hampshire LLC Act, since, if any of these provisions conflict with their clients’ needs, they must expressly override them in their clients’ written operating agreements. Seventy-three provisions in the New Hampshire LLC Act are default provisions or their equivalent. Mastering these and the other 184 relevant provisions of the New Hampshire Act is hard work and it takes a lot of time, but no New Hampshire lawyers should draft multi-member LLC operating agreements for their clients if they have not mastered them.

■ Besides a detailed knowledge of the New Hampshire LLC Act, lawyers who want to draft excellent operating agreements for clients forming multi-member LLCs must have excellent operating agreement forms. The captions of the sections and subsections of these forms should identify all of the legal and tax issues likely to be significant for members of the kinds of LLCs for whom the forms are designed. By my count, in the case of most multi-member LLCs, there are 28 sets of these issues and 200 specific issues. Each of these issues should be set forth in its own section or subsection in a client’s operating agreement. The relevant sections include, for example, those concerning financial and tax issues, fiduciary issues, issues about death and other events (called “events of dissociation”) that will terminate members’ memberships and the consequences of these dissociations, and, perhaps most importantly, dispute resolution issues.

■A baseball team can’t succeed unless all of its players know all of the rules governing their sport. Similarly, the business of a multi-member LLC can’t succeed and its members won’t find their participation in that business fully satisfying unless all of them have a practical understanding of the legal and tax rules governing themselves and their LLC. Thus, the primary duty of the lawyer drafting an operating agreement for these clients is not merely to draft the agreement, but rather, to the extent the clients agree, to teach them these rules and, as noted above, in their operating agreements, to override the rules that conflict with their clients’ needs and interests.

For example, forms used by LLC lawyers for multi-member LLCs should provide that the members have a duty of loyalty to the other members of the LLC, and this duty should normally include a duty not to compete with the LLC while they are members. But, especially in the case of real estate rental multi-member LLCs, some members may want their operating agreement to override this duty.

■ As for the form and style of the operating agreement itself: Each form and any operating agreement based on it should be written in plain English with a minimum of legalese and taxese, so that non-lawyer members can understand its provisions and their practical impact on them on a careful first reading. In addition, to enable clients to get the “big picture” of their multi-member LLC, their operating agreement and the form on which it is based should begin with a single-level table of contents; and to enable them, after their multi-member LLC’s formation, to quickly find on their own and without their LLC lawyer any specific operating agreement provisions on contested LLC issues, these agreements should also contain a two-level table of contents.

But will the above multi-member LLC clients really need to hire a lawyer to draft their operating agreement? Can’t they just use an operating agreement provided by companies like Rocket Lawyer and LegalZoom?

Maybe they’ll have to, since these agreements can save them many hundreds of dollars in legal fees and a lot of time determining their tailored operating agreement needs.

But the problem is that every multi-member LLC has at least a few unique features that Rocket Lawyer and LegalZoom forms can’t address. A good operating agreement will be specifically customized to reflect this uniqueness, and this customization may be indispensable to its success. Even more importantly, as discussed above, the members of multi-member LLCs who are willing to make the effort should acquire from their lawyer a practical understanding of the LLC law and tax rules governing themselves and their LLCs. Rocket Lawyer and LegalZoom can’t teach them these rules.

The bottom line is this: If the multi-member LLC you’re forming involves significant financial, personal or family stakes, avoid Rocket Lawyer and LegalZoom; hire an LLC lawyer to draft your operating agreement and to teach you what it means for you.

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