A corporation is an independent legal entity, separate from its owners, who are known as shareholders. It is this independence that affords the shareholders limited liability for the debts of the company and enables them to easily transfer their shares in the business. But when a corporation decides to cease operations, or dissolve, it must undergo a process to terminate its independent legal status. Corporations are regulated under state law, so the dissolution process can vary. However, there are some general steps that all corporations must take.
The dissolution process begins by getting the shareholders to approve the termination of the corporation. Normally, the board of directors discusses and proposes a resolution for dissolution. If the board agrees on dissolving, it presents the resolution to the corporation’s shareholders for a vote. In some states, all that is required for the shareholders to pass the resolution is a simple majority, while in other states, a two-thirds majority is necessary.
Read More: What Happens to a Shareholder in a Dissolved Corporation?
Wrapping Up Business
After the shareholders agree to terminate the corporation, the entity does not instantaneously stop. Most states require that the corporation “wrap-up” its business. The corporation is required to notify all corporate creditors of the dissolution. This is to ensure that all corporate liabilities are paid prior to the termination of the business. The corporation is also required to complete all its outstanding contracts regarding sales of its goods and service, but it is not allowed to enter into new contracts. The winding-up process generally concludes with the corporation gathering and selling all the assets that it does not intend to distribute to its shareholders.
The articles of dissolution is document that a terminating corporation must file with the state in which it was originally formed. The articles formally terminate the corporation. The articles should describe how the corporation will distribute what remains of its assets to its outstanding shareholders. The articles are generally filed with the secretary of state.
The corporation’s remaining assets are distributed to the shareholders based on how many shares of the corporation they owned. For example, if a person owned 25 percent of the outstanding stock, he would get 25 percent of the remaining corporate assets. The corporation must file Form 1099-DIV with the IRS and its former shareholders to report the distributions.
The dissolved corporation will also need to file its final tax return. When the corporation files its final return, it should detail the last of the financial activity. Also, the corporation must check the “final return” box in Item E of the return. The corporation should also cancel its Employer Identification Number. The corporation does this by sending a letter to the IRS stating that it is dissolving and it no longer requires an EIN.
John Cromwell specializes in financial, legal and small business issues. Cromwell holds a bachelor's and master's degree in accounting, as well as a Juris Doctor. He is currently a co-founder of two businesses.