Member-Managed or Manager-Managed

Limited liability companies have largely become the entity of choice when starting a new business.  One of the decisions that must be made when a LLC is formed is whether the LLC should be member‑managed or manager-managed.  This decision can dramatically affect how the business is operated and determines who is authorized to make the day-to-day business decisions for the company.

At the onset, it is important to understand the difference between a member of and LLC and a manager.  A member is similar to a stockholder in a corporation.  A member has rights of ownership in the company which include the right to vote on certain things, the right to view the records of the company, and the right to receive pro-rata distributions of profit.  A manager, on the other hand, does not necessarily need to be a member (if the LLC is manager-managed).  Rather, a manager is generally empowered to make the day-to-day decisions of the company in the ordinary course of business.  Such decisions would typically include deciding who to hire, how to price products, marketing decisions, borrowing by the company, paying out distributions to members, or causing the LLC to enter into contracts.

An LLC can be member-managed or manager-managed.  A member-managed LLC is managed by each of its members, with each member having equal rights of management regardless of their membership percentage.  In other words, for management decisions, each member gets 1 vote regardless of whether they have a 1% membership interest or a 99% membership interest.  A manager-managed LLC is managed by a manager, or group of managers, that are appointed by vote of the members.  Under Utah law, an LLC is, by default, member-managed unless the members assent to an operating agreement that provides that the LLC will be managed by managers.  See Utah Code ¶ 48-3a-407.

A key difference between member-managed and manager-managed LLCs has to do with whether the LLC can pay the members/managers for services performed for the LLC.  Utah law provides that a “member is not entitled to remuneration for services performed for a member-managed limited liability company, except for reasonable compensation for services rendered in winding up the activities of the limited liability company.”  Utah Code § 48-3a-407(8).  This provision of Utah law can become very important to a minority member in an LLC, to protect from unfair practices of majority members.  For example, imagine a member-managed LLC that has 4 members, one with a 10% membership interest and the others each holding a 30% membership interest.  The three members holding the 30% membership interests might try to take advantage of their majority by voting to pay themselves a salary while not paying the 10% member.  This is a common tactic used by majority owners to secure for themselves more of the profits of the company at the expense of the minority member.  If the LLC is member-managed, however, the majority members are prohibited from such practices by Utah law.  If the LLC is manager‑managed, the prohibition of § 407 does not apply.

Another key difference between member-managed and manager-managed LLCs is the degree of fiduciary duties that extend to the members and the managers.  In a member-managed LLC, the members have duties of loyalty and care both to the company and to the other members.  Generally, the duty of loyalty precludes a member from appropriating a company opportunity or engaging in activities that are adverse to the company (such as working for a competitor).  The duty of care requires members to “refrain from engaging in grossly negligent or reckless conduct, intentional misconduct, or a knowing violation of the law.” Utah Code § 48-3a-409(3). In a manager-managed LLC, the duties of loyalty and care apply only to the managers and “a member does not have any duty to the limited liability company or to any other member solely by reason of being a member.” Utah Code § 48-3a-409(9).

This article deals only with two discreet differences between member-managed and manager‑managed LLCs.  It’s important to note that the duties of members in both member-managed and manager-managed LLCs can be altered, to a certain extent, through an operating agreement.  If you are forming a LLC, it is important to consult a knowledgeable attorney to discuss your specific circumstances and goals to determine what form of management is appropriate for your LLC.

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