Suppose you’re starting a business and forming a limited liability company (LLC) in Colorado. In that case, you’re not required to have an operating agreement, but it’s a good idea to have one in your records.
An operating agreement is particularly important if your LLC has more than one owner, or member, as it establishes ownership shares, profit and loss distributions, and member roles and responsibilities.
Why You Need an Operating Agreement
A smartly drafted operating agreement can help you in many situations, such as when your LLC merges with another business or a member is no longer capable of working.
The operating agreement establishes each member’s ownership share in the LLC, profit and loss distribution percentages, and how proceeds will be divided if the business is sold. An operating agreement also defines how decisions and member disputes will be resolved.
It also defines each member’s role and responsibilities and how the LLC is managed, clarifying who oversees which aspects of LLC operations.
Colorado laws will apply by default without an operating agreement, and disputes may have to be settled in court, which can have serious negative consequences for the business.
What Should the Colorado Operating Agreement Include?
Navigating the establishment of a Colorado LLC requires a comprehensive understanding of its foundational document: the operating agreement. Let’s delve into the key elements that should be encapsulated within this pivotal contract.
- Each member’s rights and responsibilities: Detail the specific roles, tasks, and authorities each member possesses. Members might have different managerial responsibilities based on their expertise.
- Capital contribution requirements for each member: Stipulate the amount of money or value of other assets each member is required to contribute to the LLC, and timelines for such contributions.
- Procedures for adding and removing members: Outline the process, including any voting or unanimous decisions required, to add a new member or remove an existing one.
- What happens when a member sells their interest, becomes disabled, or dies: Specify how the member’s interest will be managed, whether it can be transferred to a third party or be inherited.
- Conditions under which a member might become bankrupt or insolvent: Address how the LLC will manage a situation where a member faces financial difficulty, potentially jeopardizing the business.
Management and Voting:
- Management structure and roles of members: Detail whether the LLC is member-managed or manager-managed. Define specific roles and responsibilities.
- Voting rights of each member: Clarify whether voting is based on membership interest or if each member has an equal vote.
- Rules for meetings and voting: Specify the frequency of mandatory meetings, quorum requirements, and methods for voting (e.g., in person, proxy).
- Rules for managing potential conflicts of interest among members: Include policies to ensure transparency and fair decision-making.
- Allocation of profits, losses, and distributions: Clarify how profits and losses will be divided. This could be proportional to capital contributions or a different agreed-upon ratio.
- Provision for periodic financial audits or reviews: Determine how frequently the LLC will undergo financial checks, by whom, and how any discrepancies will be addressed.
- Tax treatment of the LLC: Ensure clarity on whether the LLC will be taxed as a sole proprietorship, partnership, or corporation, based on the chosen tax classification for the Colorado LLC.
Changes and Amendments:
- Process for amending the operating agreement: Define procedures for proposing changes and how they will be ratified.
- Guidelines for company management during transition events: Describe how the business will be managed during pivotal events, like a change in membership.
- Conditions under which the LLC might be sold or merged: Specify any terms, conditions, or procedures for a potential sale or merger of the LLC.
Disputes, Legalities, and Policies:
- Clauses for dispute resolution or mediation: Outline preferred methods (e.g., arbitration) for resolving disagreements to avoid litigation.
- Guidelines for non-compete and confidentiality agreements: Define the terms under which members may or may not engage in competitive activities and how confidential information should be protected.
- Provision for indemnification and limitation of liability: Determine the extent to which members are protected from personal liability in the course of conducting LLC business.
Record Keeping and Communication:
- Details about record keeping requirements: Highlight what financial and operational records need to be maintained as per Colorado state laws.
- Guidelines for how company-related decisions will be documented or communicated: Describe methods of communication (e.g., emails, minutes of meetings) and where records will be stored.
Company Information and Dissolution:
- Description of the business’s purpose and activities: Clearly state the primary purpose and scope of the LLC’s operations.
- Identification of the registered agent and office: Name the appointed registered agent (as per Colorado requirements) and specify the principal office address.
- Procedures for dissolving the Colorado LLC: Define the steps to close the business, as per Colorado state guidelines, and how remaining assets or liabilities will be managed.
- Procedures for winding down or liquidating the company’s assets: Outline how the LLC’s assets will be liquidated, and how the proceeds will be distributed among members.
How to Draft a Colorado Operating Agreement
You can find operating agreement templates online from services like ZenBusiness, which will ensure the standard legal language and allow you to fill in the blanks. You’ll probably be able to find free templates online as well, but it’s advisable not to use those as they may include errors.
If your business has multiple members, you should consider having an attorney draw up your operating agreement. An attorney will ensure that all bases are covered, and all members’ rights are protected. They can also include language that is specific to Colorado laws.
This could cost anywhere from $500 to $2,500, but it could save you much more.
Articles of Organization vs. Operating Agreement
The operating agreement should not be confused with your LLC’s articles of organization. The articles of organization officially form your LLC with the state and include no information about member roles or financial interests.
Also, the articles of organization are filed with the state and part of the public record, while an operating agreement is kept in your LLC’s records and referred to as needed.
Keep Your Colorado Operating Agreement Up to Date
It’s a good idea to review your operating agreement periodically. Circumstances change, and the safest approach is to ensure your operating agreement is fully up to date. Generally, your operating agreement will state that members have to vote to approve amendments to the operating agreement.
Don’t Skip the Operating Agreement
You’re not required to have an operating agreement in Colorado, but the wise entrepreneur would never do business without one. It’s a document that could be critical to the future of your business. You may think a dispute will never arise, but times and people change.
You don’t want to end up in a bitter court battle because you pushed off creating an operating agreement. It’s a document that will protect the rights and interests of your LLC members and ensure smooth, continued operations in the event of any unexpected hurdles or pitfalls.
Does an LLC operating agreement need to be notarized in Colorado?
No, operating agreements do not have to be notarized. They are not filed with the state, just kept in your records.
What happens if a Colorado LLC does not have an operating agreement?
Colorado default rules for LLCs will apply, but in cases of dispute, the law may be vague, and your members could end up in court.