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It’s Time to Update Your Partnership and Operating Agreements

The laws governing partnerships and LLCs have changed, and partnership agreements and LLC operating agreements need to be updated to comply. Now is an excellent opportunity to review and revise documents so they are consistent with your current business needs. 

New Audit Rules

Congress has amended the rules governing how partnerships are audited. Have you addressed these new rules in your partnership and operating agreements? If not, you need to.
 
Since 1982, partnership audits have been governed by a law referred to as TEFRA. It is because of TEFRA that your partnership and operating agreements provided for a “tax matters partner.” Under the new law, TEFRA has been repealed and a new partnership audit structure has been put in place. Among those changes is the elimination of the “tax matters partner” and the substitution of a “partnership representative.” This is more than a title change; the partnership representative has rights and powers different than those of a tax matters partner.

What Needs to Change?

Every partnership and operating agreement must be amended to address how the partnership representative is to be elected or appointed (those rules are now more flexible than they were under the TEFRA regimen) and outline the partnership representative’s responsibilities and rights.
 
But that’s not all. Under the new law, a partnership/LLC can fall into a variety of categories that will determine how any audit will ultimately take place. Certain small partnerships/LLCs may want to entirely elect out of the new rules, which is permissible, but only if certain requirements are satisfied. Partnerships/LLCs desiring this option will need to modify their partnership/operating agreements to satisfy all of those limiting factors.
 
Larger and more complicated partnerships will be subject to one of two alternative rules. The partners/members will need to amend the agreement to either elect one or the other of those structures or designate somebody who will make that determination when needed. That person may be, but isn’t required to be, the partnership representative.

Two types of LCCs are not subject to this rule:

  • A single member LLC that is taxed as a disregarded entity
  • A multiple member LLC that is taxed as a C corporation or S corporation 

Is Your Agreement All It Should Be?

Any partnership/operating agreement that was written several years ago may not account for subsequent changes in the statute. This is especially applicable to LLCs, where the law is developing rapidly. Has your document remained static?
 
In some cases the operation of a business has developed and departed from the original operating agreement, e.g. calling for meetings every quarter although members only meet annually. If there have been significant changes in the members or the partners such that the agreement should be reconsidered anew, it’s important that an agreement accounts for both the current law and how you actually operate.
 
A topic that surprises many participants in LLCs is how your interest is treated upon death. If you thought your interest in the LLC would go to your spouse and children, you may be in for an unwelcome surprise.

A Cost-Effective Approach

While no organization wants to incur additional legal fees, changes in federal and state law have made it unavoidable. Attorneys at SKO are well-versed in the former and current law, and are prepared to update partnership/LLC agreements to reflect those changes. In particular, Thomas E. Rutledge, a co-author of the Kentucky LLC Act, a co-author of a nationwide treatise on LLC’s and co-author of a book on Kentucky limited liability company act, can review your document, advise you as to what it says and assist in any necessary or recommended revisions.