Atlanta Business Owners Beware—- You Need Appropriate Operational Agreements
As an Atlanta lawyer helping businesses start off on the right foot or correct past errors, I find myself constantly preaching to my business clients to make sure their limited liability company (LLC) has a solid operating agreement and other organizational documents that properly guide the company and its members on all important issues. A perfect example of why my nagging is good advice for any business owner is seen in Georgia law’s treatment of when a member is entitled to distributions from the company and how much.
Distributions Are How You Are Paid—-Protect Your Rights
Unless you are a member who is on a salary, which is rare, distributions from the company are how you are paid for your hard work, monetary investment and expertise. In Georgia, a member’s right to a distribution from the company is controlled by O.C.G.A. § 14-11-404. This statute controls how distributions are made during the active running of the company. A separate provision controls how distributions are to be made upon the dissolution of a company.
The statute makes clear that having a written plan of how distributions are to be made is vital. This is so because the statute first defers to the company’s operating agreement or articles of incorporation for how distributions are to be made amongst partners and how much to each member.
If the operating agreement or articles of incorporation are silent as to distributions, Georgia law then defers to approval of all of the members on distributions. This requires the company to conduct a vote of all of the members each time a distribution is desired and obtain unanimous approval before a distribution can be made. This is obviously not the most advantageous way to conduct the business of making distributions. It is potentially time consuming (depending on frequency of distributions and how many members) and often times members disagree regarding the timing or amount of a distribution and therefore a unanimous approval cannot be reached.
When there is no written guidelines for making distributions and unanimous approval of the members to make the distribution cannot be obtained, Georgia law clears the jam by requiring distributions to be made equally to all members. This can be a severe penalty to some members who had planned and even may have initially had the agreement of the other members to receive a larger percentage of all distributions.
Cautionary Tale Of Trying To Save A Little Costing Much More
Here is a real life example of how not planning in advance for how distributions will be made and properly documenting the same can come back to bit members. Business partners A and B decide to start a business and create an LLC. They register the company without drafting an operating agreement and use a standard form article of incorporation document found on the internet that says nothing about how distributions will be handled.
At the time of starting the business, Partner A invested more money than Partner B in the business in exchange for the agreement that Partner A would receive 60% of all distributions to Partner B’s 40%. This was all done by handshake since the partners were life long friends.
Several years later, Partner A and Partner B had a personal falling out. Partner B started slacking off. A big deal went through for the company and a huge distribution was desired. Partner B wrote Partner A demanding 50% of the upcoming distribution instead of the 40% originally agreed to at the start of the company. Since there was no operating agreement or articles of incorporation designating how distributions were to be made and no approval of a 60/40 distribution would ever be agreed upon by Partner B, Partner A legally had to make the distribution 50/50 pursuant to O.C.G.A. § 14-11-404.
This outcome could have been easily avoided by proper preparation at the organizational stage of the company to draft and execute a solid operating agreement which spelled out in detail the when, how and how much of the distribution process of the company. Instead, Partners A wanted to save a few thousand dollars by not hiring a lawyer and doing it himself. In the end, that choice cost Partner A tens of thousands of dollars.