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Why Your Corporation Needs Bylaws

Updated: Feb 18

Bylaws are the governing document of your corporation. They are effectively your corporation's constitution. But why do you need them?

To begin, your state might well require them.

Texas requires corporations to have bylaws. Tex. Bus. Orgs. section 21.057(a).

California basically requires them (the exception is if you have the number of directors in your articles; few corporations actually do this, and there is no field on the form articles for this). Cal. Corp. Code section 212.

But there are many other reasons to have bylaws:

  1. To maintain limited liability – Many states require bylaws (including Texas and, effectively, California). Those that don't will still look to whether you have kept to all of the formalities required by your bylaws or your states default rules when deciding whether or not to pierce the corporate veil.

  2. To pre-approve procedures for dealing with conflict – Your bylaws can set forth the rules and procedures of conflict resolution. By adopting them before a conflict develops, you narrow the number of procedural issues that can arise.

  3. To establish classes of stock – States allow for different classes of stock (for example, common and preferred) with different rules. If your corporation plans on going this route, it is vital that the rules and procedures applicable to each be set forth in the bylaws.

  4. To set forth your operating structure – Will your corporation have one director or three or five? Will they have committees, or just the board? How many officers? California and Texas require you to have a president and a secretary. But do you need a treasurer? In California the answer is yes, but what if you're in Texas? Do you need a vice president? Do you need multiple vice presidents? Who reports what to whom? These questions should all be answered by your bylaws.

  5. To define terms – An inclusive list of agreed-upon vocabulary If your industry has a particular vocabulary, you will want that reflected in your bylaws. For example, if a dispute arises and the only "writing" you have is a bunch of emails back and forth about "the property," what does that mean?

  6. To identify a qualifying individual for licensure – Some state licensing organizations require entities to have a qualifying individual in order for the entity to obtain a license. For example, California's CSLB requires that corporations (and LLCs) have a responsible managing officer, employee, member, or manager ("RMO") to obtain a license. This person is effectively the individual through which the entity is licensed.

  7. To increase the value of your business – If you have been observing all of the needed formalities (including having bylaws, keeping minutes, etc.), then your business will look like a better investment to potential new members.

  8. Succession planning – Succession planning is the process by which you set your corporation up to continue after you are no longer with it. You could think of it as estate planning for your business, but it is more like estate planning for your interest in the business. The bylaws set forth when and how shares can be transferred.

  9. Avoid default rules – California's Corporations Code has a set of default rules for the governance of corporations. You probably have not read them. You probably have not seen them. Until now, you might not have even known about them. Obviously, you haven't agreed to them. But you can agree to a set of bylaws for your corporation that reflect how you want your corporation governed. This becomes especially important if you sell shares to new shareholders.

  10. Third party requirements – If you try to set up a bank account, ask for a loan, or transact through escrow, your bank, lender, or escrow agent might request that you provide a copy of your bylaws. This is fairly typical, and it looks better to a lender or other third party if you can say "sure" instead of "let me draft some real fast."

This list is not exclusive. There are many good reasons to have bylaws for your corporation. The big ones in my practice have been 1) that they are required, 2) to pre-approve procedures for conflict resolution, and 3) to define the operating structure.

If your corporation does not have bylaws, bear these issues in mind before drafting any or having an attorney draft them. Make sure they reflect your understanding of how the corporation should operate. And make an effort to understand them.

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