Imagine two friends launch a small design studio as an LLC. Business is running smoothly—until one wants to reinvest profits while the other demands a payout. With no written rules in place, the argument spirals into confusion, and suddenly the partnership feels like it’s falling apart. The missing piece? An LLC Operating Agreement.

An LLC operating agreement is a document that contains a set of rules by which the business has to run. It also includes the roles and duties of the members of the LLC, along with the processes to handle any type of disputes or other such scenarios. Most states do not require LLCs to have an LLC operating agreement, but it is recommended that you have one to clarify each member’s roles and avoid confusion later. In this blog, we will learn what is a business operating agreement and operating agreement vs bylaws. Let’s get rolling!

What Is A Business Operating Agreement?

A business operating agreement or LLC operating agreement is a document containing the rules and instructions that govern the business, as well as its members. This document is an essential part of a business as it helps navigate business operations and solve occurring problems throughout the life of the LLC.

If you are starting an LLC, you may think, “Do I need an operating agreement for my LLC?” or “Do you file an operating agreement with the state?”. Well, as said before, it is not a strict requirement; however, its presence can benefit the business greatly. It also protects your LLC status by showing courts and banks that your business is a separate legal entity. Even in states where it’s not required, an operating agreement gives your business credibility, structure, and long-term protection. An LLC Operating Agreement is more than paperwork—it’s your company’s blueprint for stability. Approximately 35% of U.S. business entities operate as LLCs, making the operating agreement a pivotal document for a significant portion of businesses today

Key Components of an LLC Operating Agreement

An LLC operating agreement has several key components that define its importance in a business. These components include ownership structure, management and voting rights, profit and loss distribution, etc. Below, we have discussed the major components of an LLC operating agreement. Let’s explore!

Ownership Structure

Ownership structure is the most important part of an operating agreement. This part states who owns what percentage of the shares of the LLC and how contributions were made, whether in cash, properties, or services.

Management & Voting Rights

This part is equally important and plays a great role in the decision-making processes. It defines whether the LLC is manager-managed or member-managed, and how decisions are made regarding different matters, including the internal and external business matters, as well as partnerships.

Profit & Loss Distribution

This clause is important for financial decisions, helping managers and members avoid confusion and disputes. It includes a clear distribution strategy for distributing profits and losses among the members of the LLC. It may or may not mirror ownership percentages, offering flexibility for unique arrangements.

Dissolution or Exit Strategy

An LLC Operating Agreement should always include clear dissolution guidelines, outlining how the business will wind down if members decide to close it. It also includes processes for closing: liquidating assets, paying off debts, distributing remaining profits among members, and filing final state paperwork.

Together, these components create a safety net that keeps the company organized, legally compliant, and prepared for the future.

Operating Agreement Vs Bylaws: Are Bylaws the Same as Operating Agreement

It’s common to confuse an LLC Operating Agreement with corporate bylaws, and question, “Are bylaws the same as operating agreement?”. They may sound similar, but they serve different purposes. An LLC operating agreement is a contract made for the business’s internal operations. While bylaws are a set of corporate rules, followed by corporate businesses.

Bylaws apply to large corporations. It governs the processes and decisions of the board of directors, officers, shareholder meetings, voting procedures, and compliance with corporate formalities. Unlike LLC operating agreement, bylaws are often required for corporations to operate legally and to maintain good standing with the state.

In short, operating agreement vs bylaws may seem the same, but differ in purposes and processes. Both documents are essential because they create a clear framework for decision-making, prevent disputes, and protect the business’s legal status—but the right one depends on your entity type.

Benefits and Drawbacks of an LLC Operating Agreement

Just like all other things in the world have advantages and disadvantages, an LLC operating agreement also has its fair share of pros and cons. Read those below and find out how you can benefit from the good part and manage the drawbacks.

Benefits

• It protects personal liability and shields the LLC structure as well as its operations.
• It enhances clarity, reduces conflicts, and is highly customizable, offering great flexibility.
• It prevents reliance on general state default rules.

Drawbacks

• It takes time, legal knowledge, effort, and cost to draft an LLC operating agreement.
• It is necessary to update the agreement regularly to reflect changes in numbers, members, or rules.
• Overly detailed terms can slow decision-making or limit flexibility in adapting to new opportunities.

State Requirements and Best Practices for an LLC Operating Agreement

One of the most common questions business owners have is that do you file an operating agreement with the state when registering an LLC. The answer depends on your state, because even though most states don’t require an LLC operating agreement, other states like California, New York, and Missouri require it. However, even when the state doesn’t require it, it is best for small businesses to create an operating agreement, as recommended by the Small Business Administration (SBA) and legal experts. Without it, your LLC will fall back on generic state default rules, which may not reflect the way you want your business to run.

The best time to draft an LLC operating agreement is at the time of formation of the LLC. This way, all ownership percentages, management roles, and financial distribution, along with the rules, regulations, and rights, will be defined clearly at the start, avoiding any risk of disagreement and dispute. Still, if your LLC is active and you don’t have an LLC operating agreement, it’s not too late, and you can still draft it.

To make the most of your LLC operating agreement, follow these best practices. Keep your operating agreement updated in case of a change of membership or ownership rights, or percentages, and make sure all members have a copy. This will help the state to recognize any changes you make in your LLC agreements and make the right decisions later.

Conclusion

Having an LLC operating agreement is not absolutely necessary, but it is strongly recommended to have one for your business. An LLC operating agreement includes the rules that govern the LLC, along with roles, responsibilities, ownership rights, management policies, financial distribution strategy, and other important properties. This agreement, at its core, protects the rights of the LLC as well as its members, resulting in fewer conflicts and confusion. A good LLC operating agreement must state the ownership structure, management and voting rights, and profit and loss distribution strategy.

Understanding the difference between the operating agreement vs bylaws helps in recognition of their individual existence. Both documents are essential to running a successful business. Review and update your existing LLC operating agreement, and if you still haven’t created one yet, consult a lawyer and get one now.

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Don’t leave your business vulnerable—partner with Core Finance Advisor for expert LLC formation services. Our team ensures your company is set up correctly from day one and provides a professionally drafted Operating Agreement tailored to your needs. Build your LLC on a solid foundation with guidance you can trust.