What Happens to Debt When You Dissolve an LLC?

Closing down your limited liability company can be more complicated than you expect. You can't just close your doors and leave your creditors out in the cold. As a business owner, it's your responsibility to properly dissolve your LLC under state law to avoid lingering liability, including paying off any outstanding business debts. The company's creditors are entitled to be paid first out of the assets of the business.

The process you must follow to properly dissolve your LLC is outlined in the business code of the state where you formed the company. Proper LLC dissolution involves establishing a majority vote of ownership to dissolve the company, filing termination paperwork with a state agency, liquidating the company, paying off creditors, distributing assets and following any special state requirements that will prevent the LLC from being sued after a certain point in time.

State law establishes how a dissolving LLC must distribute its assets. Creditors of the business must be paid first. After all debts are satisfied, any remaining assets must be distributed to the owners based on their ownership percentages. If owners pocket business assets without first paying off creditors, they can be personally sued for payment to collect against the assets that were distributed out of order; however, business creditors typically won't be able to collect against any personal assets that weren't part of the improper distribution.

If you're dissolving your LLC because you can't pay all of the company's outstanding bills, you must proceed carefully. In theory, an LLC is a separate entity from its owners, and creditors are generally only allowed to collect against the assets of the company. If the LLC is insolvent, the creditors may be forced to write off the company's debt as uncollectable. However, if the company has a limited amount of assets, it may be difficult to decide who to pay and who to leave unsatisfied. Filing bankruptcy and allowing the court to determine the priority of payments is often the best way to avoid ongoing problems concerning who did and didn't get paid.

If the company still has outstanding debts once you've paid out all of the assets to creditors, the remaining obligations become uncollectable debt to the creditors who are still owed money. While the LLC structure typically shields owners from personal liability for business debts, certain circumstances can lead to exposure of your personal assets. If you've personally guaranteed any business debt, the creditor can sue you if the debt can't be satisfied using business assets. Obligations to pay payroll taxes, sales tax and other taxes that the business collected on behalf of a government entity never go away. State and federal tax agencies will sue the owners personally to recover that money. Owners who regularly comingle business and personal accounts may be sued by business creditors under the theory that the business was just a sham for the owner's personal affairs.