Episode 19 | Business Law Update: A Primer on Ohio's Revised LLC Act - Ohio recently modernized its laws governing limited liability companies through the Revised Limited Liability Company Act. The revised regulations apply to all Ohio limited liability companies, regardless of when organized, making it crucial for Ohio LLCs to understand the changes and their potential impact. Frantz Ward attorney Michael Gibbons joins the podcast to highlight the key changes and the impact those can have on LLCs in Ohio.
Podcast First Aired: April 5, 2022
Guest & Host
Alanna Guy: Welcome to the latest episode of Franz Ward's podcast series, Shoveling Smoke. I'm Alanna Guy, an associate at Franz Ward, and I'm hosting today's discussion with my friend and colleague, Mike Gibbons. Mike is also an associate here at Franz Ward. He's focusing his practice on corporate law matters and works on real estate and M&A transactions. He also advises business entities on general corporate matters, including corporate compliance, which brings us to today's discussion topic regarding Ohio's revised Limited Liability Company Act. Welcome to the podcast, Mike
Mike Gibbons: Hi Alanna. Thanks for having me.
Alanna Guy: Of course. So, Mike, I know you live downtown and as the weather is beginning to break, is there anything in particular you're looking forward to as we're hopefully leaving those winter months behind us?
Mike Gibbons: Yeah, so I'm very excited for the restaurants on East 4th to open back up. I really enjoy when they would open their garage doors and bring all their tables out onto the street so you could sit down, you could walk up and down and hop from restaurant to restaurant. It's a good time.
Alanna Guy: That sounds awesome. I know I'm definitely ready for patio season. All right. So before we dive into the specifics of Ohio's revised Limited Liability Company Act, Mike, can you tell us a little bit of background on why the revised act, what the revised act is and why we want to educate our listeners on it?
Mike Gibbons: So the revised act is going to be effective on February 11th. That is when all the new legislation will come into effect. That's when you need to start using the new forms to file on the secretary of state's website. So that was this last month, but generally this is the Ohio legislature's attempt to modernize the LLC laws in Ohio. And really, that just means that they're attempting to give our LLCs greater freedoms to structure their entities and to transact.
Alanna Guy: That's great. And you know what, we're in a field that has been known from time-to-time to lag behind others in other industries a little bit. So I think some modernization certainly can't hurt. All right. So is this revised act only applicable then to the LLCs that were formed after February 11th, 2022? Or, do all of the LLCs in Ohio need to be aware of these changes and make sure they're in compliance with them?
Mike Gibbons: No, this is applicable to all LLCs. It does not matter if the LLCs are being formed after this takes effect or before. All LLCs will be required to update their operating agreements, and to make sure they're up to date with this new code.
Alanna Guy: That's really good to know, especially as we're heading into the spring here, because all of this is in effect already. Okay, so for all of our clients that are LLCs, whether they were formed 20 years ago yesterday, or they're going to be formed in the future, everyone's paying attention to these new rules. So why don't you talk to us then about some of the most important changes that the LLC should be aware of.
Mike Gibbons: So generally, the revised act is to serve as default provisions. When an LLC is created, these are the provisions that will govern the LLC, unless an operating agreement is made, and the revised act will guide what can and cannot be in the operating agreement.
Well, the previous 1705 had some ambiguous language and certain provisions in there that would confuse people as to whether or not they had to be put into operating agreements or whether they could be drafted around. 1706 has since changed that they removed statements such as otherwise provided for in the operating agreement. Things that would cause confusion. Now, it's just an enumeration of what can and cannot be drafted into an operating agreement. What needs to be in place.
There's also significantly more freedoms as to how you can structure an LLC. Originally, there was the two different options the manager managed, or the member managed. That's no longer the case. Also, it allows you to limit your exposure to liability through the waiver of certain fiduciary duties. It allows you to shield assets.
Alanna Guy: Those are helpful changes to know Mike. Thank you, and honestly, from my perspective, that sounds like to me that an operating agreement is even more important now than ever. Before there were all these default provisions and it was ambiguous, and ambiguity can either be a lawyer's best friend, or their worst nightmare.
But now we have this opportunity to really help our clients as they're thinking about how they want their company to be structured and operating. We can put that all on paper so there is no ambiguity.
Last year, Chris Koehler and I were on this podcast, and we were talking about the importance of adopting governing documents. Not only that but the importance of reviewing them periodically. It's so often that companies will draft documents, throw them in their drawers and not look at them until there's some sort of dispute.
If that document was drafted long ago, it might not even be applicable to the company any more. Now, in this instance, it might be out of date with regard to the laws. From my perspective at least, this is the perfect time for LLCs to take a look at that operating agreement, dust it off a little bit in light of this revised act, and maybe that's something that's done with their lawyer and maybe not. This is not necessarily a push for every company to go call their lawyers and look at their operating agreements. But, for some companies, it might be necessary to do that.
Mike Gibbons: Yeah. Absolutely. Particularly because with this greater flexibility, there are certain things that may have been holding certain companies back, especially with how the members are being treated or just how certain decisions are being made. It can slow down the processes a lot.
But now, because of this, there's a lot greater opportunity to agree upon certain structures or duties by contract, as well as change some key default language. But, for instance, the revised act now allows to eliminate a lot of fiduciary duties that managers and members owed to the company, as well as to the other members. Things like the duty of loyalty. That's always been a significant issue because certain members might also be members of different LLCs. And there could be an issue when you're working with somebody else who may be a competitor, but you still want to give your expert advice to this particular company. That gets into murky water. Whereas, now you can opt out of this fiduciary duty of loyalty. In which case you can have these people have more hands-on work with your company while also maybe working with another competing company.
Alanna Guy: Yeah, that's actually really a good point because before disclaiming those duties, somebody might have been uncomfortable or worried about the fallback if they were trying to engage in multiple companies. And honestly, an LLC might have missed out on some really great expertise from somebody if they weren't able to disclaim that duty of loyalty previously.
I think we're actually going to see a lot more negotiation when drafting operating agreements around those fiduciary duties and what is going to be expected, what are we disclaiming? And maybe not so much in the closer held companies that are one or two members or family companies, but for more sophisticated companies that are, which we are seeing more sophisticated companies forming as LLCs now, as opposed to at one time they were all corporations. That was oftentimes specifically because the lack of law regarding LLCs.
Now we're in a phase now where we have a revised act in Ohio, which means the law is more sophisticated and companies are oftentimes opting to be formed as limited liability companies. So this is all I think, really great as we're moving forward. And as we're talking about this authority, Mike, let's talk about the governance structure a little bit. And because you mentioned that there's some new governing structures and management structures allowed under the revised act, but let's hear a little bit more about the specifics from you.
Mike Gibbons: So previously LLCs had to designate one of two options, whether it was manager managed or member managed. They had to enumerate the powers and the duties of those members or managers within the operating agreement. And that was step number one.
Now that's changed a fair bit. First off, this dichotomy of either a manager managed or member managed is no longer a thing. You have the ability to structure your governance in any way that you want. That may look like a board of directors that may still be a single manager managing the LLC. But, it's up to you, and it gives you significantly more flexibility.
Also, you no longer have to know exactly who you want to manage the organization immediately. They have given the ability to designate agents at different times, regardless of who that person is within the organization. Obviously you can still use the operating agreement to designate an agent and their powers. However, you can now do so through a written consent of the members at any point time.
You can file what is called a "statement of authority" with the secretary of state, or you rely on the default rules of the LLC act. Previously, the LLC default rules would create a member managed organization where the members had a pro rata share of power. If somebody had an 80% ownership in the company, whereas the other member had a 20% stake, obviously that person with the 80% ownership would have 80% voting power.
They've veered away from that to try and ... It looks to protect those who are in a minority position, and now it's just based on per capita. If you have two members, they will each have a 50% voting power, which can be very helpful.
Alanna Guy: That's really important, and what I'm hearing here is that default role might not be advantageous to the same people that it once was. And so that's why it's even more important to be thinking about this and designating in the operating agreement, what that management structure is. Who can decide on what types of decisions, how great of a weight their voting power holds, and really just a nice opportunity for LLCs to think about what makes more sense for their company, and to designate their management structure based on that.
All right. Changing gears a little bit. Moving away from the management, because I think we could talk about that honestly, for a whole podcast in and of itself. But, I don't know about you Mike, but the series LLCs have been creating quite a buzz over the last year or even a little longer. But, really starting last fall, clients have been calling me, asking us questions about series LLCs. Should they be structuring their companies in series LLCs?
Particularly, I've been getting the question from a lot of out of state clients, who have either used them in other jurisdictions or either in state or out of state clients acquiring companies in other states that have subsidiary entities set up through series. Everyone wants to know what's your thought on them, but more specifically, since this is a new thing allowed in Ohio, what are the general impacts for Ohio? What does this mean for us here? What is a series LLC maybe? Maybe we should start there.
Mike Gibbons: Yeah. A series LLC is basically a LLC that you can break into a parent and subsidiary within the same entity. There's a master LLC, and then you can create series underneath them, which are part of the same entity itself. They're under the same organization documents. But, they can stand on their own as legal entities. They can hold assets. They can sue or be sued. They can have their own governance structures.
But this is created to simplify those times when individuals have multiple different LLCs holding different assets that are all placed underneath one parent company just to limit liability. Keeping track of all of that can be very difficult. There's a lot of organizational documents that go into it. I don't know if you've ever tried to get resolution pages for seven different LLCs, all just for one parent company. It can be confusing. But this is essentially a way to simplify that by placing them all within one entity, but protecting each other so that if one entity were to go bankrupt, the creditors of that particular series cannot go for any of the assets in any of the other series, or even the master.
One thing though, that I had mentioned previously is the tax treatment is not really flushed out. IRS has been unsure as to how they would like to treat the taxes for the series, but recently they have just taken how the master entity has designated their taxing. That's how the rest of the company, or the rest of the series are taxed. If the master decides they want to be taxed as a partnership, then the series underneath them will likely be taxed as a partnership as well.
Alanna Guy: That's really interesting. And from my perspective, I just heard two things that are awesome. And one is that Ohio is, I mean, we're not leading the charge, we're the 14th state, but we're one of the novel states in this area. So that's great for us. But number two, I don't know. Maybe I can commend you to get back on the podcast soon and talk to our listeners more about the pros and the cons of the series LLCs, and really dive into some of that nitty gritty because as it is developing and becoming a newer area, I think people are going to want to hear more specifically on those pros and cons and whether or not they should go that route or stay in the traditional lane. But all right, Mike, we always like to leave our listeners with a couple takeaways when we're finishing up these podcasts. So what do you have for us today?
Mike Gibbons: Yeah. So I'll give you three takeaways. One, revise LLC act is applicable to all LLCs registered in Ohio. Not just one's created today or created before this. Two, set up your management in the way that you think works best, and develop your operating agreement to give your company more freedoms. Three, make sure you review your current operating agreements to ensure that you're up to date on any new language that's put in the revised act.
Alanna Guy: All right, to recap, every LLC member should be aware of these changes to make your management structure work for your company. Then, as always, reevaluate those operating agreements. All right, that's it for this episode, thanks for joining us. And we look forward to our next discussion. Shoveling Smoke is a production of Evergreen podcasts. Our producer and audio engineer is Sean Ruhl-Hoffman. Thanks for listening.