Suppose you’re starting a business and forming a limited liability company (LLC) in Hawaii. 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 essential 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.
Without an operating agreement, Hawaii laws will apply by default, and disputes may have to be settled in court, which can have serious negative consequences for the business.
What Should the Hawaii Operating Agreement Include?
The Hawaii Operating Agreement sketches the internal blueprint of an LLC in the state. Knowing its main components is fundamental for effective governance and preparing for potential disagreements.
- Each member’s rights and responsibilities: Define the specific roles, duties, entitlements, and obligations of each member. Remember, unless the operating agreement states otherwise, all members in Hawaii have equal rights to manage the LLC.
- Capital contribution requirements for each member: Detail the amount, nature, and timing of each member’s initial and any future contributions to the LLC.
- Procedures for adding and removing members: Establish clear criteria for how new members can join the LLC and under what circumstances members can be removed. By default in Hawaii, adding members often requires unanimous consent.
- What happens when a member sells their interest, becomes disabled, or dies: Design buy-sell provisions detailing how such events will be managed and what processes are to be followed.
- Conditions under which a member might become bankrupt or insolvent: Detail the consequences and processes if a member faces financial difficulties.
Management and Voting:
- Management structure and roles of members: Determine whether the LLC will be member-managed or manager-managed. Specify the roles and responsibilities accordingly.
- Voting rights of each member: Define how voting rights are distributed. By default in Hawaii, each member’s voting power is proportionate to their interest in the LLC, but this can be customized.
- Rules for meetings and voting: Specify how often meetings are held, how notices are to be sent, and the protocols for casting votes.
- Rules for managing potential conflicts of interest among members: Develop a mechanism for disclosing and handling any potential conflicts.
- Allocation of profits, losses, and distributions: Typically, Hawaii defaults to distributing profits and losses based on the member’s share in the LLC. However, custom allocations can be set in the operating agreement.
- Provision for periodic financial audits or reviews: State when and how often audits or financial reviews will occur.
- Tax treatment of the LLC: While most LLCs are treated as pass-through entities, it’s possible to elect different tax treatments. Ensure this is specified.
Changes and Amendments:
- Process for amending the operating agreement: Define the necessary steps, including voting thresholds, for making changes to the agreement.
- Guidelines for company management during transition events: Establish protocols for management shifts or major business changes.
- Conditions under which the LLC might be sold or merged: Document the procedure for significant corporate actions like mergers or sales.
Disputes, Legalities, and Policies:
- Clauses for dispute resolution or mediation: Consider adopting a mediation or arbitration clause in Hawaii to potentially avoid costly litigation.
- Guidelines for non-compete and confidentiality agreements: Ensure that any non-compete clauses adhere to Hawaii’s standards for reasonableness.
- Provision for indemnification and limitation of liability: Clearly state the protections for members and managers acting on behalf of the LLC.
Record Keeping and Communication:
- Details about record keeping requirements: In line with Hawaii’s requirements, maintain accurate records of the LLC’s activities, including a list of members and financial statements.
- Guidelines for how company-related decisions will be documented or communicated: Establish best practices for documenting key decisions and ensuring transparent communication.
Company Information and Dissolution:
- Description of the business’s purpose and activities: Clearly state the primary purpose and activities of the LLC.
- Identification of the registered agent and office: Hawaii requires every LLC to have a registered agent within the state.
- Procedures for dissolving the LLC: Document the steps to wind up the LLC, ensuring alignment with Hawaii’s guidelines which include settling debts and distributing remaining assets.
- Procedures for winding down or liquidating the company’s assets: State the order and method of asset distribution among members in case of dissolution.
Given the intricacies of drafting legal documents, consulting with a Hawaii-based attorney during the formation of your operating agreement is always recommended. They can ensure the document is comprehensive and adheres to state regulations.
How to Draft a Hawaii 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.
Consider having an attorney draw up your operating agreement if your business has multiple members. An attorney will ensure that all bases are covered, and all members’ rights are protected. They can also include language that is specific to Hawaii 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 Hawaii 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 entirely 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 Hawaii, 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 Hawaii?
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 Hawaii LLC does not have an operating agreement?
Hawaii’s default rules for LLCs will apply, but in cases of dispute, the law may be vague, and your members could end up in court.