Founding an LLC with friends, family members, or business partners is an exciting decision. But, before you’re ready to hang the “Open For Business” sign, you need to decide who will run the daily operations.
You have two choices for your LLC management structure: member-managed or manager-managed. Read the following important information to help you decide how to operate your business.
1. LLC management
A limited liability company (LLC) is a legal entity created by owners, called “members”, to conduct business. A professional limited liability company (PLLC) is a type of LLC whose members are licensed professionals.
An LLC founded by one member is known as a single-member LLC, and if there’s more than one member it’s called a multi-member LLC.
With both single and multi-member LLCs, members must decide between two possible management structures for their business: member-managed vs manager-managed.
2. Member-managed vs manager-managed LLCs
Before forming an LLC, it’s important to understand the differences between the two LLC management structures, so you can choose the one most suitable for your business.
In a member-managed LLC, all members share responsibilities and have a say in daily operations and the long-term plans of the organization.
All members are required to vote on major business decisions. A consensus or unanimous consent must be reached before actions can be taken.
All members can act as agents in order to obtain business loans or sign contracts for the LLC, but they can’t do so without approval from the majority of members.
In the majority of states, LLCs are member-managed by default. Therefore, if you don’t mention your LLC management structure in your articles of organization, operating agreement, or other formation documents, your company will be considered member-managed by state law.
In a manager-managed LLC, the members appoint one or more managers to handle the daily operations and administrative responsibilities of the organization. If a member is appointed as manager, they are referred to as a managing-member. However, not all members can act as managers at the same time.
If no members are interested in managing the LLC, an external manager (someone who doesn’t own any portion of the LLC) can be hired to run the business operations. Depending on your state’s requirements, you can even appoint a third-party entity, such as another company, as manager of your LLC.
Managing-member vs member: what’s the difference?
- Make decisions regarding daily operations and act as an agent who can enter the LLC into contractual agreements, whereas non-managing members cannot.
- Vote on all business decisions. While non-managing members can be involved in voting, they’re not required to.
Member-managed vs manager-managed tax implications
One benefit of an LLC, regardless of whether it is member or manager-managed, is that it’s treated as a partnership for federal and state income taxes.
Instead of the organization paying taxes itself, the profits are distributed among the members and recorded on their personal income taxes — in accordance with the distributive share terms outlined in the LLC operating agreement.
- In a member-managed LLC, all members will be required to pay the current self-employment tax of 15.3% (12.4% for social security and 2.9% for medicare).
- In a manager-managed LLC, non-managing members are not subject to the self-employment tax (although other taxes may apply depending on the structure of your LLC)
The tax implications of running an LLC are complicated — consult an accountant to determine how your LLC will be taxed and the implications for managing and non-managing members.
3. When to choose a manager-managed LLC
The majority of LLCs are member-managed, but some businesses benefit from a manager-managed structure.
If your LLC has any of the following, you may want to consider a manager-managed structure:
1. Your LLC has a large number of members
If your LLC has many members, it’s more effective to appoint a manager to run daily operations. A member-managed structure requiring each member to vote on each decision would degrade your company’s ability to function efficiently and remain competitive if you have lots of members.
2. Your LLC has passive members
Many LLCs have passive investors who want member status, but don’t want to be involved in daily operations. A manager-managed LLC allows passive investors to achieve member status, but excludes them from voting, acting as an agent, and managing daily operations.
3. Your LLC members lack management experience
If one or all LLC members don’t have the necessary time or skills to manage company operations, it’s in your company’s best interest to appoint a manager.
4. How to document your LLC management structure
Once you’ve decided between operating as a member-managed vs manager-managed LLC, it’s crucial that you outline your LLC management structure in your operating agreement.
Deciding to run your own business alone or giving up responsibility to one or more members isn’t an easy decision. Clear documentation of each party’s roles and responsibilities, how decisions will be made, and how disputes will be handled is crucial to preventing legal and personal disputes.