Starting a business can be exciting and wonderful. However, generally little thought is given at that time to how the business might eventually dissolve. There are numerous reasons why a business might dissolve, some that might be contentious but others that are amicable.
Regardless of the nature of the dissolution, it is important to follow protocol when dissolving a business. Otherwise, the business owners may open themselves up to legal liability. Much like establishing the right kind of business, dissolving the business properly is also important.
Dissolving a business means that the business may no longer be responsible for its commitments such as its tax liabilities, debts, or contracts. This is a permanent step that, once complete, cannot be undone.
There are as many reasons why businesses dissolve as there are why businesses are created in the first place.
Sometimes businesses are founded for a very specific purpose such as to organize an event. Once that purpose has been achieved, the business is no longer necessary and should be dissolved.
Other times, a business was established for a specific time frame, and again, once that period has lapsed, the business was always meant to dissolve.
However, most commonly, businesses dissolve because of some kind of mismanagement, liability, or funding issue.
These issues can include: Low cash flow (the business is not profitable), bankruptcy, fraud, mismanagement, partnership disagreements, product liability issues for a defective product the business sold, or other similar reasons.
It is often said that businesses are like marriages. And, when businesses dissolve, it is like a divorce. There are many complicated issues that must be determined at the time of dissolution in order to protect the business owners from liability and also ensure that the business is taken care of.
To dissolve properly, businesses must follow legal requirements and obtain state and federal approval for the dissolution. Failure to dissolve properly may result in lawsuits, fines, or additional fees.
Typically, when the business was formed, the business entity should have included details on how the business would formally dissolve. The method of dissolution may also be impacted by the type of business that was formed.
For example, a sole proprietorship (a business entity with one owner) may dissolve upon the owner’s death, wherein the business’s assets are included in the owner’s estate and distributed according to the owner’s will.
The sole-proprietor business may also be dissolved when the owner decides to end the business. That owner would then follow the proper procedures to end their business.
A partnership may dissolve when one of the partners dies or when the partners all mutually agree that the business will dissolve. Usually this agreement is included in the formation documents when the business was first established.
Also, a corporation generally dissolves only upon a vote by a majority of shareholders authorizing the dissolution of the business.
Once it is determined that the business, whether a sole proprietorship, partnership, or corporation will dissolve, the owners must take certain required action.
If a vote is required, the business must obtain approval to dissolve the business before the rest of the steps can take place. Once approval is obtained, the business’ debts must be satisfied. Generally, there is an order in which debts and liabilities must be handled. Owners usually must be paid back for some types of investments they made to the business. Creditors must also typically be paid off during the dissolution process.
Local, state and federal governments also require certain documents to be filed. The documents required depend on what state the business is incorporated in.
If the business has any employees, customers, or clients with existing contracts or relationships, all of those parties and any others with whom the business has standing relationships, must be informed of the business’s dissolution.
One of the most common legal issues that arises during dissolution is the settling of debts and liabilities.
For example, when a business is dissolving because it is not profitable, that business generally will owe creditors and investors money, sometimes a great deal of money. All creditors must be notified, and those debts must be satisfied during the dissolution process.
Similarly, a business may have ongoing contracts whether for the purchase or sale of products or services. Those contracts must be sorted out as well and the other parties pertaining to the contract must be notified.
Another issue that arises during dissolution is the division of company assets. It isn’t always the case that a company is dissolving and has no assets to share. Occasionally, a business is dissolving and may actually be quite profitable. Quality shareholder and business formation agreements should usually detail how these assets will be divided. Failure to have an agreement in advance could lead to legal battles at dissolution.
Dissolving a business can be a challenging task, especially depending on the circumstances that led to dissolution, the type of business, and the amount of debt and liabilities against the business. If you have questions or concerns about dissolving your business, contact an experienced business attorney in your are today who can guide you through the process.