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Arizona’s LLC Laws Are Being Replaced –You Need to Update Your Operating Agreements

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BY: GARY MICHAEL SMITH, ESQ. AND J. PHILLIP GLASSCOCK, ESQ. (AND CPA, RETIRED)

Arizona has a new limited liability company act that will have two effective dates, the earliest of which is September 1, 2019.   These new laws will impact all existing and future LLCs, especially those that do not have operating agreements.  Every dispensary and ancillary business formed as LLCs will be impacted, and owners may need to create or to revise their operating agreements.  Failure to comply with the new laws could mean invalidation of your LLC, ‘transformation’ of your LLC into a de facto partnership, unintended consequences, and exposure of the LLC owners to personal liability for the LLC’s debts and liabilities.  Here are just a few of the highlights from the new LLC act.

Required Provisions.

The new act mandates several provisions that cannot be changed, even if the LLC has a written operating agreement that contradicts or opts out of the new laws.  One of the most important mandates prevents eliminating the duties of good faith and fair dealing.  Another prevents the elimination of adverse consequences for willful or intentional malfeasance.  A third new provision prevents the LLC from unreasonably restricting members’ rights to LLC information.

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New Fiduciary Duties and Modification.

The new act specifies that managers (or members in member-managed LLCs) will now owe fiduciary duties to the LLC and its individual members.  This is a radical change from the old law, and persons engaged in multiple businesses in the industry need to be extra careful about this.   These new fiduciary duties include loyalty and due care – duties which, along with the duty of good faith and fair dealing, are the most common bases for business litigation.

Changes in Voting Rights.

The new act changes the old “one-member, one vote” default to voting according to ownership percentages.  Unless the members intend to all have equal ownership, it is important to specify the ownership interests in the operating agreement.  It is also important to know that the ownership percentages are not necessarily the same as the profit/loss splits or capital accounts.

Changes in Information Rights.

The new act contains some subtle changes regarding the kind of information available to members and managers.  The new act also adds the requirement to share documents related to member and manager votes.  In addition, the new act allows inspection of documents as are “just and reasonable” for any purpose pertaining to a member or manager’s rights.

Changes in Distribution Rights.

Under the old act, and unless the operating agreement specifies otherwise, interim distributions first are applied to the members until their capital contributions are fully paid and then go to the members equally (per capita).  The new act distribution provision requires only that interim distributions be allocated equally among the members.

Keep in mind that the new act, which is a complete replacement for the old LLC law, is very detailed and contains major changes.  These changes can trap unwary LLC owners, including those without operating agreements or even those with operating agreements based on the old law.  Failure to abide the new laws could result in unintended, if not catastrophic, consequences.   We strongly recommend that every LLC be reviewed by competent legal counsel before September.

Gary Smith–Gary Michael Smith is an attorney and arbitrator and partner in the Phoenix Arizona-based Smith Saks Kuzmich PLC.   He is also a founding director and current president of the Arizona Cannabis Bar Association.  He can be reached at smith@sskattorneys.com.

J. Phillip Glasscock is also a partner at Smith Saks Kuzmich. He can be reached at jpg@sskattorneys.com

 

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