In January 2021 Ohio adopted a new statute governing Ohio limited liability companies (“LLCs”) and non-Ohio LLCs conducting business in the State of Ohio. The new statute is set forth in Chapter 1706 of the Ohio Revised Code, replacing Chapter 1705 which contains the current law. The new law (the “Ohio LLC Act”) will become effective January 1, 2022. With all that has gone on in the world this year, many have not paid much attention to the Ohio LLC Act. However, time is running out for LLCs to be prepared to operate in accordance with its provisions.
The Ohio LLC Act is based largely on the revised prototype LLC act (the “Prototype Act”) developed by a committee of the American Bar Association Section of Business Law. However, at the time of its inception, the current statute used terminology that is different from the Prototype Act and the LLC acts of many other states. In order to avoid confusion, the Ohio LLC Act retains that original terminology with which we have all become familiar. There are also aspects of the Ohio LLC Act that differ materially from the Prototype Act. A few of those provisions are highlighted below.
Clarity and Flexibility in Management Structure. Under the current statute, an LLC can be structured as either a member-managed or a manager-managed company, with specifically identified grants of and limitations on the authority of members and managers, which can be modified by the operating agreement. The Ohio LLC Act eliminates this dichotomy and provides that a person’s ability to act as an agent, and bind the LLC, can be authorized by either (i) the operating agreement, (ii) decisions of the members pursuant to the operating agreement (including the appointment of managers), (iii) the filing of a “statement of authority” with the Ohio Secretary of State, or (iv) the “default” rules set forth in the Ohio LLC Act.
Clarity in What Can be Modified by the Operating Agreement. Under the current statute and the Ohio LLC Act, the operating agreement generally controls the company’s structure and operations. However, while the current statute provides for certain provisions that cannot be modified by the operating agreement, it also contains references throughout (including in provisions not on the list of prohibited modifications) to the phrase, “unless otherwise provided in the operating agreement,” leading to confusion. The Ohio LLC Act eliminates the extraneous phrase and specifies in a single section (1706.08) what cannot be modified. Thus, under the Ohio LLC Act, unless a provision is listed in the proscribed prohibition list in section 1706.08, any provision of the Ohio LLC Act may be modified by the operating agreement.
Certain Fiduciary Duties Remain. In a departure from the Prototype Act, the Ohio LLC Act retains as a provision that cannot be waived the implied covenant of good faith and fair dealing. Other fiduciary duties contained in the Ohio LLC Act, such as the duties of loyalty and care imposed on managers, may be waived in the operating agreement.
Cancellation for Failure to Maintain a Statutory Agent. The Ohio LLC Act imposes statutory penalties on any LLC that fails to continuously maintain, or fails to update, the name and address of its statutory agent. If an LLC fails to do these things, its articles of organization may be canceled by the Ohio Secretary of State. There is a mechanism to obtain reinstatement, but it will be incumbent on all LLCs to be certain that their statutory agent and its contact information are continuously up to date.
Penalties for Breach. The Ohio LLC Act includes certain penalties that can be imposed through the operating agreement on members or assignees who fail to perform in accordance with, or to comply with the provisions of, the operating agreement, including reducing or eliminating the person’s proportionate interest in the company, subordinating the person’s interest to those of the non-defaulting members and assignees, forcing a sale of the person’s interest in the company, forfeiting the person’s interest in the company, the lending by other members or assignees of the amount necessary to meet the defaulting person’s commitment, or any other penalty or consequence as shall be set forth in the operating agreement.
Formation of Series LLCs. The Ohio LLC Act includes an entirely new concept for Ohio LLCs; the ability to create so-called “series” LLCs. Essentially, the Ohio LLC Act permits within a single operating agreement the ability to create separate series of assets and liabilities organized under a parent LLC. Think in terms of a parent entity with a number of subsidiaries. There are a number of technical rules applicable to the creation of series LLCs, and it may prove to be a useful provision in only a few limited circumstances. However, at the very least it clarifies how foreign LLCs operating in Ohio in series form will be treated.
Despite all that is going on today, it is time to focus on the Ohio LLC Act and adapt each existing operating agreement to it. Please contact any member of the Frantz Ward business law practice group, or your regular Frantz Ward attorney, for more information and assistance in getting your LLC into compliance. January 1, 2022 is approaching rapidly.