Operating Agreement — LLC — RPI Form 372

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This form is used by a syndicator when forming a limited liability company (LLC) for a group investment in income producing property, to set the LLC operating terms and the rights and duties of its members.

Your use of RPI Form 372

Forming and funding an LLC

A limited liability company (LLC) is a hybrid business entity. It combines limited liability advantages of a corporation under state law with the federal income tax treatment of a partnership.

Like a limited partnership (LP), the LLC itself does not pay federal income taxes. Instead, all reportable income, profits and losses of the LLC are passed through to the members for individual tax reporting. The members, as individuals, pay federal and state income tax on their share of any LLC income and profits.

To form and fund an LLC, the real estate syndicator — a broker or agent who gathers investors into a group for the purpose of buying, operating and ultimately selling income-producing property — needs to provide four critical documents:

two to form the LLC itself; and
two to solicit investors to fund the LLC.

The documents needed to form an LLC include:

the Articles of Organization (LLC-1) form issued by the California Secretary of State (SOS) for use by the syndicator acting alone to establish and operate an LLC in California [See RPI e-book Forming Real Estate Syndicates, Chapter 16]; and
the operating agreement, similar to most co-ownership agreements in its management, income- and profit-sharing, voting and buyout provisions. [See RPI Form 372]

The two funding documents for an LLC include:

the investment circular (IC), a narrative disclosing all the material aspects of the investment to prospective co-owner members, prepared as the product of the syndicator’s due diligence investigation and analysis of property data [See RPI Form 371]; and
the subscription agreement, the investor’s agreement with the syndicator to contribute funds in exchange for an ownership share in the LLC. [See RPI Form 373]

The operating agreement

The document that authorizes the operations of the LLC is the operating agreement. [See RPI Form 372]

The operating agreement also states the rights and duties of the syndicator, as manager, and the co-owner members. [See RPI e-book Forming Real Estate Syndicates, Chapter 19]

The operating agreement for an LLC needs to contain all the fundamental boilerplate provisions that establish the working relationships between the syndicator and the co-owners. Provisions include profit-sharing and buyout arrangements, comparable to those used in any other co-ownership agreement, such as:

limited partnerships;
tenants-in-common vestings; and
corporate stockholder co-ownership agreements.

All investors sign the operating agreement at the same time they sign the subscription agreement acknowledging their agreement to invest and provide membership in the LLC. [See RPI Form 373]

Technically, a written operating agreement is not required to evidence the agreement between the co-owners and the syndicator who forms the LLC. However, it is always the best practice to form a group investment program based on a written operating agreement, not an oral one. Further, title insurance companies require their review of a written operating agreement for any LLC receiving an insured interest in the property. [See RPI Form 372]

Governing principles and designation of the manager and officers

The governing principles for the ongoing operations and co-ownership in the LLC as stated in the operating agreement include:

business purposes and objectives;
capital contributions and percentage ownership;
co-owners’ participation in the distribution of income and profit from operations, financing and sale;
establishment of different classes of members (i.e., Class A membership shares granting priority distributions to cash investors and Class B membership shares granting a subordinated right to earnings held by the syndicator);
officers, management, compensation and accounting;
assignment of interests, termination of a co-owner and buyout options; and
dissolution and termination of the LLC. [See RPI Form 372]

The operating agreement designates the syndicator as the manager of the LLC. The syndicator, as manager, may give themselves any title they want to use, such as:

president;
chief executive officer (CEO); or
general manager.

As the lone manager, they are solely responsible for conducting the business affairs of the LLC and operations of the property it owns.

In addition to the manager, the operating agreement may provide for the appointment of other officers, such as a secretary, treasurer and so on, as in a corporate management structure. The officers do not need to be co-owners.

For instance, an accountant who is not a co-owner may be named as treasurer when the syndicator deems the position appropriate to provide oversight for the cash flow resulting from the investment program. [Calif. Corporations Code §§17704.07(u), 17704.07(v)]

The operating agreement for an LLC is fundamentally a profit-sharing agreement. It spells out when and how all the co-owner members will participate in the rents and profits generated by the property acquired with the funds they invested in the LLC.

The operating agreement contents

A syndicator uses the Operating Agreement — LLC form published by RPI when forming an LLC for a group investment in income-producing property. The form allows the syndicator to set all LLC operating terms and the rights and duties of its members. [See RPI Form 372]

The Operating Agreement — LLC contains the following sections:

formation information [See RPI Form 372 §1];
capital contributions and distributions of funds [See RPI Form 372 §2];
management, compensation, duties and powers [See RPI Form 372 §3];
accounts and accounting [See RPI Form 372 §4];
assignment of interest/substituted member [See RPI Form 372 §5];
termination of membership interests [See RPI Form 372 §6];
option to purchase [See RPI Form 372 §7];
valuation of limited liability company interest [See RPI Form 372 §8];
payment for purchase price [See RPI Form 372 §9];
dissolution of limited liability company and distribution of capital [See RPI Form 372 §10];
limitations on members’ authority [See RPI Form 372 §11];
voting [See RPI Form 372 §12]; and
miscellaneous provisions. [See RPI Form 372 §13]