Why Every California LLC Needs an Operating Agreement - Even If the Law Doesn't Require One

By Tam Berhe, Esq. | The Berhe Law Firm, APC

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When California business owners form an LLC, most of them focus on the Articles of Organization - the document filed with the Secretary of State that officially creates the entity. What many skip is the operating agreement. And that skip can cost them everything.

Here's the truth: California does not require single-member LLCs to have a written operating agreement. Multi-member LLCs are technically required to have one under California Corporations Code § 17701.10, but there is no penalty for failing to create one. As a result, thousands of California LLC owners operate without this foundational document, believing they're fine because the state hasn't stopped them.

They're not fine.

What an Operating Agreement Actually Does

An operating agreement is the internal governing document of your LLC. It establishes how the business is owned, how it's managed, how decisions get made, how profits and losses are allocated, and what happens when things go sideways - a dispute, a death, a buyout, a dissolution.

Without one, California fills in the blanks for you using the default rules of the California Revised Uniform Limited Liability Company Act (RULLCA), codified at Corporations Code §§ 17701.01 et seq. Those default rules were written to be broadly applicable, not to reflect the specific intentions of your business. And "broadly applicable" rarely means "what you actually wanted."

For example, under California's default rules:

• Profits and losses are allocated in proportion to the value of each member's contributions - not their effort, expertise, or role.
• Management decisions generally require a majority-in-interest vote, which means the member with the largest economic stake has the most control.
• There is no automatic buyout mechanism when a member wants to exit - you may end up owning a business with someone you can no longer work with, with no clear legal path to resolve it.
• If you die without an operating agreement specifying otherwise, your membership interest may pass to your heirs - giving people who know nothing about your business a vote in how it's run.

These defaults aren't designed to hurt you. They're designed to be neutral. Neutral is almost never what a specific business actually needs.

The Liability Protection Problem

One of the primary reasons people form an LLC is to separate their personal assets from their business liabilities. This separation - called the "corporate veil" - is not automatic or permanent. Courts can pierce it.

California courts have consistently held that a single-member LLC without an operating agreement, without proper records, and without evidence of being treated as a separate entity is at significantly higher risk of veil-piercing. When a plaintiff successfully pierces the corporate veil, you become personally liable for the business's debts, judgments, and obligations.

An operating agreement is not sufficient by itself to prevent veil-piercing - you also need to maintain separate finances, keep records, and generally behave as though the LLC is a real, distinct entity. But an operating agreement is the foundation. Without it, you're starting from a position of weakness.

Banking and Financing

If you've ever tried to open a business bank account, you know that many financial institutions require an operating agreement before they'll open the account. This is especially true for multi-member LLCs. Banks need to know who has authority to act on behalf of the entity, and the operating agreement is how you demonstrate that.

The same logic applies to SBA loans, commercial leases, and business contracts with sophisticated counterparties. Vendors, landlords, and lenders who deal with LLCs regularly will often ask for the operating agreement as part of due diligence. Not having one signals operational immaturity, which translates to risk in the minds of the people you're trying to do business with.

Dispute Resolution

Multi-member LLCs are particularly vulnerable here. Without an operating agreement that specifies how disputes are resolved - whether through mediation, arbitration, or a specific voting threshold - disagreements between members default to whatever California law says, and then, if that doesn't resolve it, to litigation.

California courts have significant discretion in winding up an LLC when members can't agree. This means that a dispute between you and your business partner could result in a judge deciding whether your company is dissolved - not you, not your partner, but a judge who knows nothing about your business and has a full docket.

An operating agreement with clear buyout provisions, dispute resolution mechanisms, and deadlock procedures keeps those decisions where they belong: with you.

What a Good Operating Agreement Covers

A properly drafted California operating agreement should address, at minimum:

• Membership and ownership: Who owns what percentage of the LLC and how that can change.
• Capital contributions: What each member has contributed and what future contributions may look like.
• Profit and loss allocation: How distributions are calculated and when they're made.
• Management structure: Whether the LLC is member-managed or manager-managed, and what decisions require member approval.
• Voting rights: What percentage of interest is required to approve various types of decisions.
• Transfer restrictions: Whether members can transfer their interests, and under what conditions.
• Buyout provisions: What happens when a member wants out, dies, becomes incapacitated, or is forced out.
• Dissolution: How the LLC is wound down and assets distributed if the business ends.
• Dispute resolution: How member disagreements are handled before they become litigation.

For single-member LLCs, many of these provisions look different - you're governing the relationship between yourself and the entity, which matters for liability and estate planning purposes.

The Cost Argument

I understand why people skip the operating agreement. It feels like a formality when you're just getting started, and attorney fees are real. But the cost of a properly drafted operating agreement is a small fraction of the cost of a business dispute, a pierced corporate veil, or a dissolution proceeding.

We routinely see businesses spend ten to fifty times more on litigation to resolve issues that a well-drafted operating agreement would have prevented - or at minimum, made dramatically easier to resolve.

If you formed your LLC without an operating agreement, or if the one you have was downloaded from a template site, it is worth having it reviewed. The question is not whether you can survive without one. Many businesses do, for years, without incident. The question is what happens when something goes wrong - and whether you want to face that moment with a document that reflects your actual intentions, or with California's one-size-fits-all default rules.

The Berhe Law Firm, APC drafts operating agreements for California LLCs as part of our business formation services and as standalone engagements for existing entities. We also review and update existing agreements that may no longer reflect the current state of a business or its members' relationships.