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Law in the Marketplace: Single-member LLCs need operating agreements

Written by: John M. Cunningham

Published in the Concord Monitor (1/2/2021)

Somehow, we’ve finally made it to 2021, and at least a few readers may have formed new business entities with the Secretary of State that have effective dates of Jan. 1, 2021. Among other benefits, the formation of an entity this date can simplify federal and New Hampshire state filings. And if the owner of the new entity is an individual, the entity is, or ought to be, a single-member LLC.

However, the members not only of most new single-member LLCs but also of most existing ones – there are about 40,000 of them in New Hampshire – should have written operating agreements. This may seem counterintuitive, since, by definition, single-member LLCs are totally controlled by the individuals who are their members. So you may well think that an agreement between a single-member LLC and its owner is, for both legal and practical reasons, meaningless.

However, the New Hampshire LLC Act itself authorizes and validates these agreements, and if they are properly drafted, they can answer, for banks, tax authorities, potential additional members, potential investors and other persons (including, perhaps, the members themselves), three important questions:

1. What is the management structure of the LLC? Under the New Hampshire LLC Act, the default managers of a single-member LLCs whose members are individuals are, of course, the members themselves. However, in the case of most single-member LLCs, while the member should be the principal manager, the LLC should also have a non-member assistant manager as a back-up manager if something ever happens that prevents the member from managing. This “something” could be, for example, an automobile accident that puts the manager in the hospital, or it could mean that the manager is away on travel and temporarily unreachable.

The best non-member assistant manager for married people who own single-member LLCs is often their spouse; for unmarried individuals, it may be a trusted friend , a parent or sibling. But the operating agreement should specify when the assistant manager may act on behalf of the single-member LLC, and it should provide that the assistant manager will have no fiduciary liability for his or her management actions.

2. How much cash or non-cash property has the member contributed to the LLC? The answer to this question will be important for tax and financial reasons, but it may also be important to answer in a written operating agreement for legal reasons. This is because, if the single-member LLC ever gets sued and can’t readily document that its member provided it with “adequate capital” in connection with its formation, the member may be vulnerable to a “veil-piercing” claim by a third party on the basis of inadequate capitalization. There are other ways to prove adequate capitalization, but the best starting point in making this proof will be the provisions of a written operating agreement.

3. If the member dies while a member of a single-member LLC, who will succeed to the member’s ownership of the LLC? If the member is married, the successor will generally be the member’s spouse or children. If the member is unmarried, answering this question may be more complicated. If the member has an estate plan that includes a revocable trust to hold the member’s assets, the member may be inclined to provide in the member’s operating agreement that the membership will pass to this trust.

However, for many reasons, trusts are not ideal owners and managers of business entities.

Thus, the written operating agreements of single-member LLCs owned by individuals should generally provide that upon the members’ death, their membership will pass automatically to a named individual under the New Hampshire Transfer on Death Security Registration Act. This provision will ensure that the transfer of the member’s membership upon the member’s death can entirely avoid the hassles and expenses of the New Hampshire probate process.

The bottom line: If you’re the owner of a brand-new single-member LLC or of a single- member LLC that’s months, years or even decades old and your single-member LLC lacks a written operating agreement, think about getting one.

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