All future LLC business owners should learn the difference between an operating agreement and articles of organization for 2 crucial reasons.
You need one to start your LLC.
And the other to avoid internal conflicts and keep your limited liability intact.
The first is a legal must, the 2nd an optional extra in 45 of the 50 U.S. states.
Now, filing government forms is tedious work, and an optional extra might not sound appealing. But odds are, you’ll need both to grow your business.
To save you time, I’ll tell you the difference between an operating agreement and articles of organization, why both are important for your business and how to file them.
An operating agreement (also called a certificate of organization or a certificate of formation) is the optional extra. But much like health insurance, you’ll be thankful you have it when needed.
Operating agreements are internal documents that contain the rules and regulations for an LLC, outlining the ownership structure, management, and operating procedures. It includes details like who owns how much, their rights and responsibilities, how you’ll share profits and losses, and, if the worst happens, how you’ll dissolve your LLC.
The purpose of an operating agreement is to govern your business’ internal operations in a way that suits its members’ specific needs.
An operating agreement is critical when forming an LLC because it explains how you and other members will run the business, removing the possibility of internal disagreements and costly legal battles.
It also protects your LLC liability shield by proving your business is separate from your assets in cases of litigation or debt.
And while you don’t have to create an operating agreement in most states, without one, you might have to comply with your state’s default rules to resolve internal disputes or LLC dissolution, which rarely suits your needs!
A well-written operating agreement should contain the following information:
States requiring operating agreements are California, Delaware, Maine, Missouri, and New York. Note that your operating agreement is only enforceable when all LLC members sign it.
It might sound counterintuitive, but even single-member LLCs need an operating agreement. Not to stop you from arguing with yourself (whatever gets you through the day) but to maintain your limited liability shield of protection.
For example:
A single-member LLC hair salon owner operating in South Carolina without general liability insurance (link to insurance post when published) or an operating agreement outlining the separation between themselves and the business could be held accountable if a client sues for damages caused by their service.
The answer depends on your LLC structure, like how many members there are and who owns what percentage. And whether you’re in business with family and friends or purely on a professional level.
Risks can include:
Operating agreements exist to protect you and other members from various undesirable situations; the main benefits include:
Ultimately, an operating agreement can save you time and money by avoiding misunderstanding and resolving conflicts because it helps reduce internal altercations, arguments, debates, and disagreements.
Yes, every LLC should use an operating agreement to prevent misunderstandings and disputes between members and protect the LLC’s liability shield.
Articles of organization are a legal requirement for anyone wishing to form an LLC business entity.
It provides your business location’s Secretary of State with the information they need to form your new business. And to ensure you understand and comply with your state’s laws and regulations.
You file Articles of Organization in the state where you form your LLC. It includes the business names and addresses, the LLC’s purpose, and your registered agent’s contact details.
While state requirements vary, the key steps to file articles of organization are similar throughout the U.S.
Yes, every LLC must file articles of organization with the state where they form.
Similar to filing articles of organization, the information you must include also varies between states; however, most require:
Articles of organization and articles of incorporation are similar, with one key difference:
Articles of organization are an external legal document you file with your state to form an LLC, while your operating agreement is an internal document you create to outline your LLC’s management and operation structure.
Another way to look at the difference is:
Your operating agreement details the relationship between LLC members, and your articles of incorporation summarize your business’s relationship with your state.
Common is a little misleading, as each operating agreement is as individual as those who create it and the LLC it serves.
However, there are several mistakes people often make when creating their operating agreements:
As Albert Einstein said-“If you can’t explain it simply, you don’t understand it enough!“
Making a mistake on your articles of organization differs from making one on your operating agreement because it’s an official external document that your Secretary of State’s department needs for LLC formation. If you make a mistake, they`ll deny your application.
To help you avoid that, here are the most common mistakes:
You have 3 options to create your operating agreement.
The last option is popular with entrepreneurs taking advantage of the low fees and time saving ways to form their businesses.
Below are 5 steps to creating your operating agreement:
Before you can create your operating agreement, you must form your LLC, as you’ll need to include the details on articles of organization.
Forty-five states don’t require operating agreements, the 5 that do are New York, California, Maine, Delaware, and Missouri. The advantage of living in a state requiring an operating agreement is they provide instructions on completing it.
3 ways to ensure you’re following your state’s requirements:
Regardless of which state you do business in, your agreement must provide essential business information.
Details to include are:
Multi-member LLCs should schedule members’ meetings to ensure everyone understands and agrees with the operating agreement’s information.
Multi-member LLCs should define guidelines relative to member ownership, finances, management duties, and payment structure to ensure everything is transparent and all agree.
Single-member LLCs can add this to their operating agreement if they plan to take on partners or seek investment.
For example, if a member leaves, will the remaining members get first refusal to buy the shares? Or how will the LLC pay shares to their next of kin if one dies?
Important Note:
Multi-member LLCs with 2 owners can give 2 shares to someone they trust (like an accountant or business confidant) who, in a stalemate between partners, can vote to choose the best course of action for the LLC.
Once all members agree on the operating agreement, you can complete it.
Here’s how you make your operating agreement official:
Articles of organization requirements vary by state, so take these 3 steps before completing your state’s application form:
Next, follow these tips to file your articles of organization correctly:
No, an article of organization is a legal document you file with the state where you’re forming your LLC. In contrast, an operating agreement is an internal document outlining your LLC’s management and operation.
Include your LLC’s name and address, purpose, duration, names, addresses of any members, and your registered agent’s contact details.
An LLC is a type of business entity, while you use an article of incorporation to create a corporation.
The purpose of articles of organization is to establish your LLC as a business entity within your state.
When you start your business, completing government forms and other legal documents is part of the process.
Some are obligatory, others optional, like commercial auto insurance. But you wouldn’t drive without it, would you?
Consider an operating agreement as your LLC`s internal insurance policy that secures your assets and partner relationships.
The only difference is that an operating agreement is free, and you get to create the terms!
So, why take the risk and run your business without one?
This portion of our website is for informational purposes only. Tailor Brands is not a law firm, and none of the information on this website constitutes or is intended to convey legal advice. All statements, opinions, recommendations, and conclusions are solely the expression of the author and provided on an as-is basis. Accordingly, Tailor Brands is not responsible for the information and/or its accuracy or completeness.
Terry is a serial entrepreneur with over 25 years of experience building businesses across multiple industries – construction, real estate, e-commerce, hotelier, and now digital media. When not working, Terry likes to kick back and relax with family, explore Taoism’s mysteries, or savor the taste of fine Italian red wine.
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