When planning your own business, you should decide in advance not only on the type of enterprise, but also on its management structure. This will directly affect the further activities of the entire company, so you need to take into account all aspects involved in its formation.
If you decide to start an LLC, then, depending on the type of management, there are 2 most popular ways:
- Member-managed LLC;
- Manager-managed LLC.
The type of management structure is indicated in the main documents of the company. For limited liability companies, these are the Articles of Organization and Operating Agreement. The latter is especially important because it provides detailed information on how the business will operate and what the management structure will be.
To form an LLC correctly and avoid future conflicts, you should be careful when drafting these documents.
In our member-managed vs manager-managed discussion, we will briefly cover the difference between member-managed and manager-managed LLCs and outline their advantages and disadvantages. We will also talk about what criteria you should focus on when deciding on a management structure, and how to change the business structure if you have already chosen one of them.
The Management Structure
An LLC has a flexible structure that gives its owners complete freedom.
Do you prefer to run your business and make all decisions yourself? Then a single-member LLC is the right option for you. Maybe you want to create an LLC together with a partner? In that case, multi-member LLC fits you best.
Besides, if you decide to open an MMLLC, you need to think in advance about its management structure. There are two basic options:
- Member-Managed LLC;
- Manager-Managed LLC.
Most LLCs are member-managed by default in most states. This is the most popular choice. However, members can change the management structure at any time to manager-managed.
Each of these options has its unique advantages and disadvantages, so it is impossible to say which one is better. The choice between manager-managed or member-managed depends on the peculiarities and goals of each particular company.
What Is a Member-Managed LLC?
As the name implies, a member-managed LLC is managed by the owners. Each of them is entitled to:
- Participate in decision-making;
- Enter into contracts on behalf of the LLC;
- Acquire corporate property, etc.
A member-managed LLC is a good way to start a business. When your business structure and needs expand, you can change your management structure to one that is more relevant.
Member-managed LLC Operating Agreement
An Operating Agreement is an internal company document that contains the rights and duties of the participants, management principles and specifics of the basic procedures.
Despite the fact that the law usually does not require LLCs to have an Operating Agreement, it plays an important role in providing the stable operation of the company. Among other things, it establishes the management structure.
No matter whether you choose to start as a single-member or multi-member LLC, an Operating Agreement will be of great benefit. Providing for a wide range of situations that may arise in the future will help you avoid confusion and misunderstandings.
Generally, an LLC Operating Agreement includes the following key points:
- Issues that require all co-owners to vote;
- How many participants form a quorum;
- The influence of each participant’s vote on the final decision;
- Percentage of the votes from the total number of participants in the decision-making process;
- The procedure for the equal distribution of votes;
- A change-of-members process;
- Profit and loss distribution;
- Raising capital;
- The possibility of acquiring a share, etc.
Having a clear and concise manual will not only ensure the effective operation of the company, but will also avoid the application of default laws, which are common in every state.
Benefits of Member-Managed LLCs:
When comparing member-managed LLC vs manager-managed LLC, the first type is more popular. It’s perfect for you if:
- You, as the owner, are actively involved in the work of the LLC;
- The budget of your company is limited, and you want to save on hiring a manager;
- An LLC is a small company with a simple structure and in the hands of a few owners.
Downsides of a Member-Managed LLC
The flip side of a member-managed LLC has the following issues:
- Difficulties in raising capital. The only way to invest in an LLC is to become a member of the shareholders, each of whom actively participates in running the company. This option will not fit investors who prefer passive management;
- Maintenance of the LLC requires a lot of time and effort, which limits the business owners’ opportunities.
What Is a Manager-Managed LLC?
Choosing a manager-managed structure implies that the participants delegate some of their responsibilities to one or more designated managers. The latter are involved in maintaining the day-to-day running of the company, while the owners have the right to make the most important decisions, such as:
- Merger or purchase of another business;
- Getting a loan, etc.
Both legal entities and individuals are entitled to act as managers (the owner of an LLC or a third party).
Managers have the authority of an agent. This means that they have the right to make decisions in favor of the company. The duties of the managers differ from regular employees, who usually cannot sign documents on behalf of the company.
The most common responsibilities include the following:
- Entering into contracts on behalf of the business;
- Hiring and firing of employees;
- Working with independent contractors;
- Handling current financial matters, etc.
Manager-managed LLC Operating Agreement
When hiring employees, having an Operating Agreement is essential. This is the document in which the company owners can specify such important points as:
- The procedure for appointment and dismissal of managers;
- Rights and duties;
- Decisions the managers will be responsible for, etc.
Be aware that issues not covered by the Operating Agreement will be subject to the default laws of the state. Because they are general in nature and do not take into account the specifics and purposes of your business, the application of default laws is not desirable.
To protect your company’s interests in the best possible way, you should draft an Operating Agreement as detailed as possible. Consult with an experienced attorney or accountant who knows the laws of the state.
Benefits of Manager-Managed LLCs:
Although a manager-managed LLC is less common than a member-managed LLC, the use of this management structure can be very convenient in situations like:
- The owners do not have much experience in running a business or want to focus on planning without being distracted by routine tasks;
- Complex internal structure of the LLC. For example, if the company consists of several departments, each of which has a different business line and needs;
- The owners prefer maximum confidentiality. As a rule, the Operating Agreement should publicly state the name of the person who runs the company. If the manager performs this duty, their name is mentioned rather than the names of the company’s owners;
- A large number of co-owners, with whom you need to reach an agreement, creates additional bureaucracy. Having a manager, in this case, will significantly accelerate daily processes and will have a positive impact on the efficiency of the business;
- Some owners do not want to be involved in the day-to-day affairs of the LLC, limiting themselves to an investment in its capital.
Downsides of Manager-Managed LLCs:
In comparison to member-managed LLCs, manager-managed LLCs are not so common among start-ups and small businesses. This is due to features such as:
- In the initial stages of your business, it requires some investment and therefore the expenses often consume a significant portion of your profits. Under such circumstances, a manager’s salary can put a serious strain on a new company’s budget;
- By transferring part of the work of the LLC to the manager, the control of the owners over it is reduced;
- The effectiveness of the manager’s work depends on how well their rights and duties are specified in the Operating Agreement. This can cause confusion for the aspiring entrepreneur because of the lack of experience in running a business;
- If the manager is a third-party, their understanding of the nature, purposes, and specifics of the LLC may not be as deep as the owners’.
How to Change the Management Structure of an LLC
Whether you choose a member-managed or manager-managed LLC, one day you may need to change the type of management of your company. Most states have a special procedure for this, with a few simple sequential steps:
- Voting: the choice of a new type of management must be approved by the LLC members. Depending on the rules set forth in the Operating Agreement, the decision may be made by majority vote or unanimously;
- Submitting an amendment for approval: the management structure of the company is described in its Articles of Organization and Operating Agreement. Since the Articles of Organization is an official document, any changes or amendments to it will require approval from the state. To do this, you must send the completed paperwork to a specialized state agency and pay the mandatory fee.
Less serious changes that are only set forth in the Operating Agreement and do not affect the Articles of Organization can be made using a simplified procedure. All you need is to be approved by others and add the new information directly in the Operating Agreement.
For example, such questions include:
- Rights and responsibilities of the managers or members;
- Ownership shares, etc.
Frequently Asked Question
The law does not limit business owners in the number of managers. Usually, their number depends on the needs of the company.
Generally, the “corporate veil” protects managers against personal liability for the debts and obligations of an LLC.
However, each state law differs in its approach to liability regulation. Therefore, you should find this information in the state legislation or consult with a professional.
No. The management structure does not affect the tax treatment of the LLC.