Draft Your Operating Agreement: Member vs. Manager Managed

Key Takeaways

• Determine if you want every owner to have signing authority (Member-managed) or if you prefer a designated leader (Manager-managed).
• Gather your Articles of Organization and specific ownership percentages for every partner before drafting.
• Standardize how you will handle capital calls, profit distributions, and the departure of a member.
• Ensure your document explicitly states the LLC's status as a separate entity to preserve your limited liability protection.

Running a business with partners is a bit like a marriage; everyone is happy until the first big bill or the first big disagreement arrives. If you are moving beyond a solo shop, your operating agreement is the only thing standing between a clean resolution and a $20,000 legal bill. This guide will help you choose the right management structure and document the rules of the road for your LLC.

What you'll need

• Your filed Articles of Organization from your Secretary of State (.gov).
• A list of all members, their home addresses, and their initial capital contributions (cash or equipment values).
• A clear decision on who has the authority to sign contracts and take out business loans.
• Your Employer Identification Number (EIN) from the IRS.
• A draft of your "Buy-Sell" terms (what happens if someone wants out).

Step-by-step instructions

Step 1: Choose your management structure

You must decide between a Member-managed or Manager-managed setup. This is the most important box you will check on your formation documents and in your agreement. In a Member-managed LLC, every owner has the authority to bind the company to contracts. This works well for a two-person HVAC team or a small retail shop where both owners are on the floor daily. It is the default in most states.

In a Manager-managed LLC, the members (owners) elect one or more managers to run the show. These managers don't even have to be owners. This structure is better if you have passive investors who put up the cash but shouldn't be buying trucks or hiring staff without your permission. It keeps the "too many cooks in the kitchen" problem at bay. You can find more on management definitions through the U.S. Small Business Administration (SBA).

Step 2: Define ownership and capital contributions

List every member and exactly what they brought to the table on day one. Don't just say "50/50." Document that Partner A contributed $10,000 in cash and Partner B contributed a 2022 Ford F-150 valued at $35,000. This is your "initial capital." Using real numbers here prevents arguments three years from now when the truck is totaled and someone wants their original value back.

Next, define your "Capital Call" procedure. If the business bank account hits zero next Tuesday, is every member required to pitch in more cash? If Partner A can't pay but Partner B can, does Partner B’s ownership percentage increase? You need to write these rules while you still like each other. Refer to the IRS guide on LLC taxing to understand how these contributions impact your basis.

Step 3: Outline distribution and voting rights

Profit doesn't have to follow ownership percentages exactly, but it usually does. If you want a different split—perhaps a silent partner gets paid back their principal before you take a draw—you must put it in the agreement. Be specific about when distributions happen. Will you pay them out monthly, quarterly, or only when the bank balance exceeds a certain threshold?

Voting rights are your tie-breaker. You can give each member one vote, or you can weight votes by ownership percentage. For 50/50 partnerships, you need a deadlock provision. Some owners use a third-party mediator or a "blind buy-sell" where one person names a price and the other chooses to either buy or sell at that price. This prevents the business from freezing because two people can't agree on a new lease.

Step 4: Establish the "Exit Strategy" (Buy-Sell)

People leave businesses because of the five Ds: Death, Disability, Divorce, Departure, or Disagreement. Your operating agreement must dictate what happens to their shares. Do the remaining members have the first right of refusal to buy them out? Usually, you don't want your partner’s spouse or child suddenly becoming your new business partner because of a probate court ruling.

Define the valuation method now. Will you use a multiple of earnings, a book value, or an annual appraisal? If you don't set this now, a departing partner might demand a "unicorn" valuation that your cash flow can't support. You can check USA.gov for state-specific business resources to see if your state has default "withdrawal" laws that might apply if you leave this section blank.

Step 5: Execute and store the document

Once the draft is ready, all members must sign it. You do not typically file this with the Secretary of State; it is an internal document. However, your bank will often ask for it when you open a merchant-specific account. Keep the original in a secure digital folder and a physical fireproof safe. Treat it with the same level of security as your tax returns.

Update the agreement whenever you add a new member or significantly change your business model. A quick amendment signed by all parties is all it takes. If you are bringing on investors for the first time, this is the moment to verify your business credit score to ensure the entity stands on its own.

Common mistakes to avoid

• Copying a random online template: Every state has different default rules. A template meant for a California real estate firm will likely fail a 4-person landscaping crew in Ohio because of how it handles "dissociation" or member liability.
• Mixing personal and business assets: If your agreement doesn't clearly separate your personal life from the LLC, a creditor can "pierce the corporate veil." Always keep separate accounts and follow the formalities laid out in your agreement. See how Jimmie Allen’s case shows that an LLC isn't a magic shield if you don't act like a business.
• Ignoring the "Deadlock" clause: In a two-member LLC, a 50/50 split with no tie-breaker is a recipe for a court-ordered liquidation. You need a way to move forward when you disagree.
• Forgetting to update the Register: If you change your management style from Member-managed to Manager-managed, you often need to file an amendment with your Secretary of State in addition to updating your agreement.

When to call a pro

While you can use a high-quality service to generate a base draft, you should call a business attorney if your LLC has more than three members or if you are dealing with more than $250,000 in initial capital. A CPA is also vital to review the "Tax Matters Representative" section of your agreement.

If you are setting up a specialty shop, like a pet care facility, your agreement might need specific clauses regarding professional liability that a standard template won't include. Spending $1,500 now on a legal review is much cheaper than spending $50,000 later to sue a former partner for control of the company.

Your operating agreement is the foundation of your shop. It protects your personal house, your car, and your kids' college fund from the risks of the business. Take the time to get the management structure right from the start.

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📋 Disclaimer

This article is for informational purposes only and does not constitute legal, tax, financial, or professional advice. Laws and regulations change frequently, and the information presented may not reflect the most current legal developments. Always consult with a qualified professional (CPA, attorney, financial advisor) before making business decisions based on this content. MyBizNerd may receive compensation through affiliate links, but this never influences our recommendations.

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