Suppose you’re starting a business and forming a limited liability company (LLC) in Kentucky. 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 significant 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, Kentucky 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 Kentucky Operating Agreement Include?
When establishing an LLC in the Bluegrass State, it’s crucial to draft a meticulous Kentucky Operating Agreement. This guide will delve into the essential components that cater specifically to Kentucky’s unique business environment.
- Each member’s rights and responsibilities: In Kentucky, the operating agreement should provide clarity on individual member duties, powers, and entitlements, fostering harmony and transparency in operations.
- Capital contribution requirements for each member: Define each member’s contribution amount or value, be it monetary, tangible assets, or services. This might influence ownership percentage and profit distribution.
- Procedures for adding and removing members: The agreement should lay down guidelines for inducting new members and the conditions under which members can exit or be removed.
- What happens when a member sells their interest, becomes disabled, or dies: Highlight the transfer procedures and the impact of these events on the functioning of the LLC.
- Conditions under which a member might become bankrupt or insolvent: Describe the implications for both the member and the LLC if bankruptcy occurs.
Management and Voting:
- Management structure and roles of members: Specify whether the Kentucky LLC will be member-managed or manager-managed and elucidate roles accordingly.
- Voting rights of each member: Define each member’s voting power, often in relation to their ownership percentage or another metric.
- Rules for meetings and voting: Describe the frequency of meetings, the quorum required, and the decision-making procedures.
- Rules for managing potential conflicts of interest among members: Implement measures to manage and disclose any conflicts of interest that may arise, ensuring ethical business conduct.
- Allocation of profits, losses, and distributions: Clarify how financial outcomes will be apportioned among members—generally based on their capital contribution or a decided formula.
- Provision for periodic financial audits or reviews: While not always mandatory, periodic financial audits can promote financial transparency and integrity.
- Tax treatment of the LLC: Kentucky LLCs typically have pass-through taxation. However, the agreement can state if a different tax status (like being taxed as a corporation) is preferred.
Changes and Amendments:
- Process for amending the operating agreement: Define the steps and any specific thresholds, like a supermajority, necessary for making changes to the agreement.
- Guidelines for company management during transition events: Establish procedures to direct the LLC through major changes or significant business events.
- Conditions under which the LLC might be sold or merged: Outline the process and criteria for business events such as mergers or acquisitions.
Disputes, Legalities, and Policies:
- Clauses for dispute resolution or mediation: Incorporate mechanisms like mediation or arbitration before resorting to litigation to handle disagreements.
- Guidelines for non-compete and confidentiality agreements: Establish parameters for member engagement outside the LLC and protection of business information.
- Provision for indemnification and limitation of liability: Detail how members are protected from personal liabilities stemming from their role in the LLC.
Record Keeping and Communication:
- Details about record keeping requirements: While Kentucky has its statutory record-keeping mandates, the operating agreement can specify additional documentation practices.
- Guidelines for how company-related decisions will be documented or communicated: Ensure consistent documentation and communication of essential business decisions among members.
Company Information and Dissolution:
- Description of the business’s purpose and activities: Clearly define the primary business objectives and operations, ensuring clarity for all stakeholders.
- Identification of the registered agent and office: Every Kentucky LLC is obligated to have a registered agent within the state. This should be duly noted in the agreement.
- Procedures for dissolving the LLC: Lay out the step-by-step process for dissolution, in line with Kentucky regulations.
- Procedures for winding down or liquidating the company’s assets: Set guidelines for how the LLC’s assets will be liquidated and outstanding obligations met in case of dissolution.
How to Draft a Kentucky 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 Kentucky 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 Kentucky 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 Kentucky, 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 Kentucky?
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 Kentucky LLC does not have an operating agreement?
Kentucky default rules for LLCs will apply, but in cases of dispute, the law may be vague, and your members could end up in court.