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When forming your business and taking steps to register your business to a limited liability company (LLC), there can be a lot of paperwork. An LLC helps establish your business as a separate legal and tax entity, protecting your personal assets. They help business owners avoid being sued personally and have tax considerations that allow businesses to avoid being taxed twice in some states. 

In short, an LLC has these advantages: 

• Protects personal assets 
• Creates a separate business entity 
• Avoids double taxation 
• Flexible management structure 
• Ownership options 

Although the Articles of Organization can address many of the topics above, it often falls short of addressing these topics in-depth. As a result, LLCs might experience disagreements among members, and the members could still be sued for personal assets. Thankfully, there is a solution: an Operating Agreement. You should think about drafting an Operating Agreement around the same time you file your Articles of Organization during the LLC formation process, as they share a lot of the same information. However, Tennessee doesn’t require you to file your Operating Agreement, so you should just keep it somewhere safe. 

In this guide, we’ll cover the importance of drafting an Operating Agreement and what it takes to create one. 

What is a Tennessee LLC Operating Agreement?

An Operating Agreement, in short, is a document that sets the rules for how your LLC runs. The Operating Agreement goes a step beyond the formation of an LLC and further protects members from legal liability. Although it is not a requirement in Tennessee to have an Operating Agreement, all LLCs should have a clearly defined Operating Agreement. 

The Operating Agreement should answer these questions:

• Who are the owners of the LLC?
• How much of the LLC does each member own?
• Who manages the LLC?
• Who will vote on important decisions for the business?
• How will profits be divided? 
• What is the protocol for a member leaving the LLC?
• What happens if the LLC is dissolved?

Why do I need an LLC Operating Agreement in Tennessee?

Even though it’s not required to have an Operating Agreement in Tennessee, this document should not be overlooked as it outlines the affairs of the company. With just a bit of extra time, it will prove to be an important legal document for your business. In this section, we’ll review some of the many benefits of creating a clear and thorough Operating Agreement. 

• Protect the liability status: By drafting an Operating Agreement, members have increased protection from personal liability to the LLC. This helps legitimize the LLC by further separating the business from personal assets. 
• Assign ownership: An Operating Agreement should outline the ownership of the company. This is especially important when adding new members or in the event that an owner exits the business. 
• Avoid default rules: By default, every state has rules for LLCs. Avoid the default regulations in Tennessee by creating specific rules and regulations for your business. However, keep in mind that any specifications cannot contradict the laws in Tennessee. 
• Clarify verbal arguments: In the event of any disagreements or misunderstandings, companies can refer to their comprehensive Operating Agreements. This way, they can avoid verbal arguments because the rules for business arrangements will be covered in writing. 
• Banking and investors: When it comes to LLC finances, an Operating Agreement is a must. To begin with, most banks require an Operating Agreement to open a business bank account. In addition, if there are any potential investors or business partners, they will want to see an Operating Agreement to ensure that you have a legitimate business. 

According to the U.S. Small Business Administration (SBA), all LLCs should have an Operating Agreement. Operating Agreements officially bind members of the LLC to the terms and conditions outlined, and the document must be signed by each member to be valid. All in all, Operating Agreements empower businesses to be flexible and should not be bypassed or overlooked.

What do I include in my Tennessee LLC Operating Agreement?

The SBA recommends that all LLCs include specific guidelines to run the internal affairs of their companies. This is because creating a clear and comprehensive Operating Agreement can add legitimacy to your business and avoid internal conflicts. If a business chooses to bypass this document, it will be subject to default LLC laws in Tennessee, which may not fit its desired structure. 

Thankfully, drafting an Operating Agreement is easy. By opting to use an Operating Agreement template, you can significantly decrease the amount of time that you would otherwise spend to create this essential document. Furthermore, you can feel confident that your Operating Agreement covers every minute detail that might otherwise be overlooked so that your business and personal assets are safe. 

Items to include in your Tennessee Operating Agreement:

1. Percentage of Members’ Ownership

According to the Tennessee Revised Limited Liability Company Act, a member is defined as a person who has been admitted to an LLC. In some cases, your LLC can be a “member-managed LLC,” which means that it isn’t managed by a manager. By default, all members have equal ownership in Tennessee. However, LLCs have the opportunity to differentiate and outline specific membership interests.

Not every member of the LLC is required to add the same capital contributions into the business. For this reason, one might want more ownership. Let’s suppose that member A invests 60% into the LLC, while member B invests 40%. Unless otherwise written, both members will have equal ownership of the LLC. If member A wishes to own a higher percentage of the business, it must be noted and agreed on in the Operating Agreement. 

2. Voting Rights and Responsibilities

In addition to ownership, all LLCs should outline the management of the company as well as voting rights and responsibilities of members of the LLC. Unless it’s stated otherwise in the Operating Agreement, all members of the LLC (managers and directors included) will have equal voting power, and voting is determined by a majority vote. 

It’s important that LLCs list what the procedures for voting are, as they can vary from company to company. For instance, the number of necessary members to make a vote, or quorum, is an important requirement to have valid votes. It should also be outlined what to do in the event that a member is unable to attend a meeting and if anyone can be a proxy and stand in to vote.

3. Powers and Duties of Members and Managers

It’s also important to outline the powers and duties of members and managers because each business can have its own preferences and unique setup. In short, this section of the Operating Agreement should address who has the power to establish guidelines, any additional groups (such as directors, managers, holders), and financial rights. Outlining the powers and duties of members is very important because of the different scenarios that are possible. 

In one case, one of the owners might contribute 70% to the LLC, while the other owner will contribute 30%. The majority owner can choose to take 50% of the profits without doing work if written in the Operating Agreement. The owner who contributed 30% can own the business equally and receive 50% of the profits even though they invested less because they perform the majority of the work. 

Helpful definitions: 

• Member-managed LLC: The LLC is managed by members instead of a manager 
• Manager-managed LLC: The LLC is managed by designated managers, which could be specific members or an outside party.
• Member: A person who was admitted to the LLC
• Manager: A person who has authority in the company 

4. Distribution of Profits and Losses

By default, all members of an LLC in Tennessee share equally in profits and losses. Because of this, all members automatically share in the profits and losses equally. Since members of an LLC can invest more than others or may do more of the day-to-day work, it’s a good idea to outline how profits and losses will be allocated among members. 

5. Holding Meetings

Next, your LLC should outline the requirements for holding meetings. Namely, are there a specific number of meetings that must occur every quarter or annually? Because members of the LLC may not participate in the day-to-day operations, it’s crucial to ensure that everyone is well-informed of any matters occurring within the LLC. 

Additionally, it is wise to outline the procedures for the meeting — that is to say, the place, purpose, required members, etc., of the meeting. These procedures can be quickly outlined in the Operating Agreement and ultimately help avoid disagreements among members and encourage transparency in the company.

6. Buyout and Buy-Sell Rules

Lastly, all LLCs have the general powers to acquire or sell property. In addition, they can also remove a member from the company if they have specific documentation to address membership consequences. In some cases, an LLC may be able to eliminate a defaulting member’s proportional interest in the business. 

In Tennessee, they may fix the value of the interest of the defaulting member or sell the interest of that member. Since the terms are quite broad in Tennessee, it’s critical to outline the scenarios in which members can be removed and the rules associated with it.

Additionally, the Operating Agreement should address how to transfer membership interest or their governing rights. In Tennessee, members can transfer ownership when they transfer all of their governing and financial rights and have approval by all members of the LLC. However, they can transfer governing rights to another member without the consent of other members. This, in particular, is why it’s very important to outline your own rules and regulations for your LLC.

Partner With ZenBusiness for Professional Assistance

Reduce the time you spend crafting an Operating Agreement by using an existing template. In addition to reducing the amount of time required to draft one, you can also be assured that you’re covering every topic necessary to protect your LLC. 

At ZenBusiness, we know how it is to be a business owner and the headache that tackling business paperwork can be. That’s why we’ve made it our mission to help businesses with the administrative work and ensure they are compliant with all government regulations. 

Although drafting an operating might seem like an unnecessary step, it can be incredibly beneficial to your LLC. An Operating Agreement can help you avoid disagreements, secure personal assets, open a business bank account, and more. By using a template to help you draft your Operating Agreement and then having a legal professional review the final document, you are preparing your business for the future and securing it from any mishaps.

Updating and Revising Your Tennessee LLC Operating Agreement

Since it’s fairly simple to update an Operating Agreement — as you don’t need to file it with the Tennessee Secretary of State — it’s recommended to revisit your Operating Agreement annually or any time significant changes need to be made. Make a note to look at it when filing your annual report.

If the Operating Agreement needs to be amended, all members must approve the amendment. However, you’ll need to make sure your Operating Agreement contains a section that specifies how and when amendments can be made. Revisions become official once signed by every member of the LLC.

Once the changes have been made and approved by all members of the LLC, they should be stored with other core business records. Tennessee does not require members to file their Operating Agreement to the state. However, if any of the information reflected in your Articles of Organization needs to be updated, you will need to submit an amendment to the Secretary of State. These changes could include updating your registered agent/registered office or changing your company name.