Dissolution of Your Business Entity

by

Brian P. McMahon, Esq.

There are primarily four reasons why a business entity is dissolved.  These are:  1.) retirement of an owner(s) with no plan for succession; 2.) as part of estate administration upon the death of an owner; 3.) a breakdown in the relationship between multiple owners; and, 4.) creditor/financial issues.  Although the fundamental process is the same regardless the reason, there are unique requirements depending on the circumstances involving not only knowledge of business law, but estate laws as well.  In this article “business entity” is intended to refer to corporations, limited liability companies, professional limited liability companies and other forms of owning a business.

There are two ways to “dissolve” a business entity, namely, “informally” and “formally.”  Informal dissolution is not so much a process as it is a decision to let the business entity “die a natural death” by simply informing the State of Michigan and the Internal Revenue Service that the entity is ceasing its operations.  Formal dissolution is when an actual “Certificate of Dissolution” is filed with the State of Michigan, the statutory process set forth in the Michigan Business Corporation Act (“MBCA”) for dissolving a business entity is followed and the necessary documents are filed with the Internal Revenue Service.

Regardless of whether the business entity is informally or formally dissolved, the company needs to go through a process called “winding up.”  During the “winding up” process the assets of the business entity are marshaled and liquidated, debts are paid and the remaining assets, normally money, are distributed to the shareholders/members.  However, the decision whether the business entity will be informally or formally dissolved needs to be made before beginning the actual “winding up” process.

Perhaps the most important factor in choosing between informal dissolution and formal dissolution is whether a shareholder/member will receive a distribution (e.g. money) as a result of the dissolution of the business entity.  Another factor, relating to the first, is whether there are creditors of the business entity, including state and federal tax liability.

Informal dissolution may be appropriate if a Shareholder/member will not receive any distributions and there are no creditors; or, a Shareholder/member will receive a distribution and there is a very high degree of confidence that there are no creditors.  Formal dissolution should be considered if a Shareholder/member will receive a distribution and there is a low degree of confidence that there are no creditors.  Formal dissolution is highly recommended if Shareholder/member will receive a distribution and there are creditors whose claim is unliquidated (i.e. the exact amount is unknown) or whose claim is disputed by the business entity.

The formal dissolution process involves, in very general terms:

·                   Vote of shareholders/members to dissolve the business entity.

·                   Filing of a Certificate of Dissolution.

·                   Notice to Known Creditors (requiring creditors to submit a claim within a certain time period).

·                   Notice to Unknown Creditors.  This is accomplished by publishing Notice of Dissolution in a newspaper of general circulation in the county where the business entity is located.

·                   Obtaining a Tax Clearance from the State of Michigan (together with the final tax return for the business entity) confirming that all taxes have been paid.

·                   Filing required Internal Revenue Service documents.

Once the time period for creditors to submit a claim has passed and all of the business entity’s assets have been liquidated, distributions are made first to creditors and then to shareholders/members.

The benefit of informal dissolution is that it is less time consuming and it is less expensive than formal dissolution.  The benefit of formal dissolution is that the MBCA provides that if the statutory formal dissolution process is followed, shareholders/members that receive distributions will be protected from liability for claims made by creditors after the formal dissolution process is complete.  If the formal dissolution process is not followed (i.e. the business entity is informally dissolved when it should have been formally dissolved), a shareholder/member may be liable to a creditor up to the amount of the distribution received by that shareholder/member.       

It is important to speak to a business attorney before deciding whether to informally or formally dissolve a business entity.  There are technical compliance issues that if not followed can result in “issues” even years after the business entity ceased operations.

Footnote:  The issue of bankruptcy is outside the scope of this article.  However, for all practical purposes, the bankruptcy process is similar to a formal dissolution.  An important practical difference is that assets can typically be sold for more during the “winding up” process than if sold as a result of the bankruptcy process (i.e. “fire sale”).  Therefore, if the “writing is on the wall” it is best to begin, and hopefully finish, the dissolution process before bankruptcy is the only option and/or a creditor forces the business entity into bankruptcy.

Contact Brian P. McMahon

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