In most budding enterprises, the capital and profits are shared by the founders. But investors may have played a role in getting the business up and running, which means they have the right to receive part of your company’s earnings. Each corporate structure follows a set of procedures that outline how profits are shared. In an LLC, it’s worth understanding that portions of the ownership can be sold, which are also called membership shares.
Why Sell Membership Shares?
Investors normally receive membership shares in exchange for the cash, property, or other assets they invested in a company. It’s also possible to provide these shares to contractors or employees for their services. Startup LLCs that do not have a lot of cash usually rely on this tactic to compensate employees.
Aside from making your LLC attractive to investors, membership shares play a crucial role in the overall profitability of your company. It’s important to have a working understanding of how ownership percentages work in order to define the right to vote and share in profits of each member.
Understanding Ownership Percentages
There are two ways to express ownership of an LLC: by percentage and by membership units. The latter is similar to stock shares in a corporation. Unlike a corporation, however, an LLC offers the advantage of freely distributing its ownership as it pleases. The money invested by members do not directly influence their ownership percentages.
To make this point clearer, take an LLC with two members, John and Jane. John contributes $20,000 to the LLC but doesn’t take part in its day-to-day operations. Meanwhile, Jane doesn’t contribute any money but operates the LLC daily. The two members can decide to have a 50%-50% membership split.
You also have the option of setting up an LLC with different classes of membership interests. This proves particularly useful in case you need to provide special voting power and allocations of profit to some members. An example is creating “super-voting” units. Each of which can equate to 10 votes or pay a given profit share.
All of these details must be specified in the LLC operating agreement. Consulting an attorney is recommended to make sure to iron out all the necessary information.
You should also understand that federal and state laws govern the sale of ownership interests. In general, however, selling membership shares to a small number of investors exempts you from most of the regulations. Still, it’s a prudent move to work with an attorney so you can go through the sale process without worrying about breaking the law.
Summing It Up
Structuring your LLC with ownership percentages in mind helps ensure that all members receive the right to vote and share in the earnings of the company. This is a step you couldn’t afford to miss, as splitting membership interests can be a source of conflicts among the members. Selling membership shares doesn’t only compel investors to put money in your LLC, but also builds a solid foundation upon which to run your startup.
