Member-Managed LLCs Versus Manager-Managed LLCs

When you form a limited liability company ("LLC"), you will need to decide how your LLC will be managed. With LLCs, there are two different possible management structures.

You can choose to have a member-managed LLC where all the members (owners) participate in running the business. Or, you can have a manager-managed LLC where only designated members, certain nonmembers/outsiders, or a combination of members and nonmembers are given the responsibility to run the business. The other members in a manager-managed LLC are passive investors who are not involved in business operations.

Overview of LLC Management

One of the major benefits of an LLC is that it provides the owners with flexibility and options for the management of the business. Generally speaking, management refers to the day-to-day operations of an LLC. However, the company's operating agreement can specify what duties are placed on management, which may include:

• hiring employees and independent contractors
• signing contracts on behalf of the LLC
• managing the company's financial affairs (such as opening a bank account or borrowing money), and
• buying real estate and other property for the LLC.

Overall, the managers of an LLC are agents for the business, meaning they have the legal authority to act on behalf of the LLC. As a result, you should give careful consideration to who you select for management.

Member-Managed LLCs: The More Common Choice

Most people who set up an LLC choose member management, meaning that all the members share responsibility for the day-to-day running of the business. This approach is more common in part because most LLCs are small businesses with limited resources and they don't need a separate management level to operate.

Unlike corporations, LLCs have a streamlined organizational structure, without officers or boards of directors. As a result, the LLC form is often chosen by people who want to be directly involved in managing and operating their business.

If you and the other members of your LLC want to run your own business—actually make and sell products, take orders, provide services—then you will want a member-management structure for your LLC. For example, if your LLC is a bakery and all your LLC members want to play an active role in the business -- crafting recipes, baking goods, hiring employees, opening and closing the shop -- then you will want to operate the LLC as member-managers.

In most states, LLCs are member-managed by default under state law. This means that if you don't designate a management structure for your LLC either in your formation documents or operating agreement, then it will be considered a member-managed organization.

Pros and Cons of Member-Managed LLCs

There are two major advantages to forming a member-managed LLC. First, the structure allows all owners to have a say in running the business. Secondly, it is a simple management structure that is suitable for most LLCs with only a few members.

However, there are also downsides. All of the members have to work together in running the business. Depending on the terms of the operating agreement, you might need a unanimous vote before the LLC can move forward with any decision. Further, member-managed LLCs have a harder time attracting investors as they might not want to be involved in managing the business.

Manager-Management: Better in Certain Circumstances

In some situations, a manager-management structure may be preferable. The most common example is when some members only want to be passive investors in the business. These owners often feel more comfortable if the LLC delegates management responsibilities to one or more other members (or nonmembers).

Other situations where LLC owners may prefer a manager-management structure are:

• when your business or ownership is too large, diverse, or complex to efficiently allow for sharing management among all members
• when some of your members are not particularly skilled at management, or
• a combination of both situations.

Delegating management to a smaller group of people or just one person can be an effective way of balancing the varied skills and interests of multiple LLC members. It can also ensure more competent management of the business.

While LLCs that appoint managers often rely on one or more of their own members to fill the role, you can hire a nonmember as manager.

Pros and Cons of Manager-Managed LLCs

The major benefits of manager-managed LLCs include:

• attracting passive investors
• limiting management to a small group of people, and
• allowing managers to make decisions easier and faster.

On the other hand, some of the downsides of manager-management include:

• cutting owners out of management decisions
• the challenge of finding managers the owners trust to run the business
• the LLC might need a more complicated operating agreement that explains the managers' duties and responsibilities, and
• the LLC might have to pay the manager a salary.

Document Your LLC Management Choice

If you choose member-management, you may not be required to formally document this choice anywhere. However, many states ask you to state whether your LLC will be member-managed or manager-managed in the articles of organization that you file to form your LLC.

Nevertheless, all LLCs should have a written operating agreement that defines the basic rights and responsibilities of the members (and managers, if you have them). In a member-managed LLC, this would include things like:

• member voting rights
• additional capital contributions
• buy-out provisions, and
• other important management and operational issues for the owners.

Without an operating agreement, you run the risk of finding yourselves in a full-blown crisis when something unexpected arises because basic issues weren't clearly addressed and agreed to early on.

If you fail to create your own operating agreement, then your state's LLC rules will apply. These are not necessarily the rules that you want for your business so make sure you have your own written agreement for your LLC.

Choosing Member-Management

If you choose manager-management for your LLC, there very likely will be a legal requirement that you clearly spell out this choice somewhere in your LLC's organizational documents. Typically this is either in the articles of organization that you file with the state or your operating agreement.

In addition to the items mentioned above for members that you want to include in an operating agreement, you also will want your agreement to address what authority and responsibilities the manager, or managers, will have. For example, will the managers have sole authority for all hiring decisions? What about equipment purchases? Just like with the member provisions, documenting the extent of the manager's—or managers'— authority can help avoid problems down the road.

For more details about setting up a manager-managed LLC, see Manager-Managed LLCs: The Details. For information on manager-management for a single-member LLC, check out What Is a Manager-Managed Single-Member LLC?.