By Nikki Nelson, Customer Service Manager, BizFilings
There’s often confusion about who owns a limited liability company (LLC). Is it the members of the LLC, or is it the LLC managers? In this article we explore the differences between these roles and when you may want to opt to choose a member-managed LLC or a manager-managed LLC.
Who owns the LLC?
The owners of an LLC are known as members.
Think of members as analogous to partners in a partnership or shareholders in a corporation. If your LLC has managers, a member will more closely resemble shareholders and won’t participate in management of the LLC. If your LLC doesn’t utilize managers, then the members will more closely resemble partners since they have a direct say in decision making.
Management of an LLC
How does a member-managed LLC differ from a manager-managed LLC? It depends on the relationship between ownership and management.
An LLC is unique in that, by statute, it may choose one of two management structures. Either it can be managed by its members or by chosen managers (third-party individuals).
While member-management is the default rule according to state law — meaning that if managers are not selected in the Articles of Organization, the members will direct the affairs of the LLC — the LLC can state in its Articles or LLC operating agreement that the LLC is to be managed by a manager(s). This gives the manager authority to manage daily operations of the LLC, including hiring employees, issuing payments, and entering into contracts. The owners of the LLC, however, retain authority for strategic business decisions such as applying for credit, forming business partnerships, etc.
Any decision about who will manage the LLC should be made before your company begins operations. For more information, read What is an LLC operating agreement and why do you need one.
A member-managed LLC is a business entity in which all members participate in the decision-making process. Each member has an equal right to manage the LLC’s business, unless otherwise stated in the operating agreement. If a dispute arises, the vote of a majority generally rules. Although certain actions can require unanimous consent.
If the members consent, an LLC may be set up with different classes of members with one class having greater or different management rights than others.
Reasons to choose a member-managed LLC
While each situation is unique, the following scenarios may prompt you to choose that your LLC be managed by its members:
- The members wish to play an active role in day-to-day management.
- The LLC only has a small number of members and basic management decisions can be made without consulting other members.
- The members are familiar with the business and able to make informed decisions.
Rights and responsibilities of LLC members
LLC members have some key rights and responsibilities, including:
- Financial rights: Members have certain financial rights, such as the right to share in allocations of the company’s profits and losses. They can also share in distributions of the LLC’s assets. The operating agreement will set forth the precise nature of those financial rights, such as whether they are shared equally, based on capital contributions, or some other criteria. It’s important to note that although members manage the business and its affairs, they do not own the LLC’s property.
- Right to vote: The scope of a member’s voting rights depends on whether the LLC is managed by its members or by managers. In a member-managed LLC, members can vote on all matters that affect the business and its affairs. In a manager-managed company, members have limited voting power. All voting-related rules such as meeting locations, requirements to quorum, etc. should be included in the operating agreement.
- Member inspections: Some states require that LLCs maintain certain records and provide the right for members to inspect these records. Records include the names, addresses, contributions, and shares of profits and losses of each member. They also contain the names and addresses of managers and certain tax records. If your LLC wants to restrict or expand a members’ right to inspect these records this can be stipulated in the operating agreement.
- Liability of members: A key characteristic of an LLC is that members are not liable for the company’s debts or obligations. However, members are obligated to make required capital contributions. Any penalties for failing to do so are set forth in the operating agreement.
What if the LLC has one owner (single-member LLC)?
Many small businesses operate as a single-member LLC, meaning they have one member or owner. In many cases, single-member LLCs opt to be member-managed. For federal tax purposes, a single-member LLC is a “disregarded entity” and still has asset protection. Business income and expenses are reported using Schedule C and carried over to personal IRS Form 1040.
As stated above, members don’t participate in the day-to-day management of a manager-managed LLC. Instead, managers make these business decisions. It’s important to note that a member can also act as a manager, just as a shareholder can be one of a corporation’s directors. Alternatively, the manager may be an outsider.
In a manager-managed LLC, the business is managed like a corporation, with a central governing body that deliberates and acts on the LLC’s behalf – without first obtaining the members’ consent. The managers may run daily operations, or they may appoint officers to do that.
The number of managers that an LLC chooses should be listed in the operating agreement as well as the qualifications of those managers.
Reasons to choose a manager-managed LLC
A manager-managed LLC can make sense for your business if certain LLC members don’t intend to take part in decision making (typically family members or outside investors). If the members choose this option, the members will not have a say in ordinary business decisions designed to help achieve your business’ goals.
As mentioned above, LLC managers can be LLC members/owners or third-party individuals outside the organization (although this is unusual for a small LLC).
A manager-managed LLC is often chosen when some or all members just want to be passive investors, there are many members, or they lack management expertise or are unfamiliar with the type of business being conducted.
Rights and responsibilities of managers
Details of a manager’s rights and responsibilities are set forth in the LLC operating agreement. This includes stipulations about the locations of meetings, quorum, voting, and notice requirements. It also states if participation by video conferencing is allowed, whether committees will be formed, and how vacancies will be filled.
Below is a breakdown of the typical rights and responsibilities of an LLC manager:
- Fiduciary duties: Whether your LLC is managed by members or outside managers, these individuals owe special duties to the LLC and its members – these are known as fiduciary duties.
- Liability of managers: A manager is not liable for the LLC’s debts and obligations. However, they may be held liable to the LLC or its members. For example, a manager may be liable for a breach of fiduciary duty or of the operating agreement, or for voting for the unlawful distribution of the LLC’s assets.
- Indemnification: An LLC manager may have financial protection against expenses and liabilities that may be incurred in defending themselves against claims based on their conduct. This is known as indemnification and some state LLC statutes require or permit the company to provide reimbursement. Other statutes where the LLC is not required to provide indemnification, instead require that the LLC has the authority to indemnify its managers and members. The circumstances under which the LLC will indemnify managers and members may be outlined in the operating agreement.
Can a single-member LLC be manager-managed?
If you decide that as an owner or member that you don’t want to manage the LLC, then you can choose to have your LLC may be manager-managed. For example, if your LLC owns a series of restaurants, you may want to appoint a manager to run each restaurant, manage employees, take care of inventory, etc. These responsibilities are all laid out in your operating agreement and the Articles of Organization.
How do I get started setting up a limited liability company (LLC)?
After you decide to form an LLC, you must file your LLC’s Articles of Organization and pay any formation fees. BizFilings' LLC Formation Service packages can efficiently handle these steps for you.
After your LLC forms are filed, it is recommended that your LLC hold an organizational meeting of its members/managers. This meeting will facilitate key steps to forming your LLC: the adoption of an operating agreement, the issuance of membership interest certificates to members, and other preliminary matters such as authorizing the opening of a bank account for the LLC. For more information on the steps you need to take to create an LLC, check out How to Form an LLC.
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