An earlier version of this post originally appeared on Bob’s blog In The (Red)® – The Business Bankruptcy Blog
An Overview Of The Formal Corporate Wind Down
If a corporation’s board of directors decides that the business needs to be wound down, there are a number of legal paths to consider. Determining the best approach is fact-dependent, and the corporation and its board should get legal advice before making a decision. Sometimes a bankruptcy filing is needed, either a Chapter 11 reorganization (perhaps to complete a going-concern sale), a Subshapter V small business reorganization (if eligible), or a Chapter 7 liquidation bankruptcy (in which a trustee will be appointed to liquidate the business). In other cases, an assignment for the benefit of creditors might be a good choice.
A Delaware Corporate Dissolution
This post takes a high-level look at another, often simpler option: the corporate dissolution. It assumes that the business is a Delaware corporation, since many corporations incorporate there. The laws of the state of incorporation govern the dissolution process, so it’s important to remember that the process described below will differ if the business is incorporated in another state.
Why A Corporate Dissolution?
Corporations typically choose to do a corporate dissolution when they don’t need bankruptcy protection (and prefer to avoid filing bankruptcy) but want to have the corporation formally wound down. The dissolution process can be less expensive than other alternatives, particularly when litigation or disputes over claims is unlikely.
- When a long-form dissolution is properly conducted, it can bar late claims against the corporation and provide directors with protection from personal liability to claimants.
- Unlike a bankruptcy filing (but similar to an assignment for the benefit of creditors), a dissolution requires shareholder approval; that often makes it a better fit for privately held corporations.
- A dissolution typically requires at least one director to supervise the process and at least one officer to manage the wind down and liquidation, although some professional firms will step into those roles.
- Corporations often elect to dissolve at a point when they anticipate being able to pay creditors in full and return some funds to shareholders or, if they are insolvent, find their creditors generally to be cooperative. If the corporation has a bank or other secured creditor, it helps if they are willing to work with the corporation to liquidate the assets without a foreclosure.
A Corporation In Dissolution
Under Delaware law, once the dissolution commences the corporation is no longer permitted to operate as a normal business. Instead, as the Delaware statute provides, the corporation continues only “gradually to settle and close their business, to dispose of and convey their property, to discharge their liabilities and to distribute to their stockholders any remaining assets, but not for the purpose of continuing the business for which the corporation was organized.” The corporation is allowed up to three years to complete the dissolution process; if more time is required, a request has to be made to the Delaware Court of Chancery (although a corporation in dissolution remains in existence, without having to go to the Chancery Court, to complete lawsuits that are pending when the three year period expires).
Key Aspects Of A Dissolution
To give you a sense of the process involved, below is a list of some of the main steps in a dissolution. However, please note that important details go beyond the scope of this post. Examples include special voting procedures that may be required if preferred stock has been issued, possible alternatives to the claims process, establishing reserves for claims, payment of the costs of the liquidation, winding down subsidiaries, and the impact of foreign affiliates. It bears repeating: a corporation considering a dissolution should get legal advice on all aspects of the process, including whether to pursue the more involved long-form dissolution or the often simpler short-form dissolution
With that caveat, a dissolution generally involves the following:
- Board approval of a decision to dissolve and adoption of a plan of liquidation;
- Shareholder approval of the dissolution and plan of liquidation in requisite majorities as provided under the corporation’s then-current Certificate of Incorporation;
- Filing of a Delaware Annual Franchise Tax Report and payment of franchise taxes, including a partial-year final franchise tax report;
- Filing a Certificate of Dissolution with the Delaware Secretary of State’s office;
- Timely reporting to the Internal Revenue Service of the dissolution;
- If pursuing a long-form dissolution, a formal claims process, with at least 60 days notice to potential claimants of the dissolution and deadline to file claims, together with publication of the notice in required newspapers, and fillings with the Court of Chancery as provided under Delaware law;
- If pursuing a long-form dissolution, review of filed claims, with appropriate offers to claimants or rejections of claims;
- If pursuing a short-form dissolution, paying, or reserving for, to the extent of the ability to pay, claims of all creditors currently owed and those likely to arise (based on facts then known) in the 10 years following the date of dissolution;
- Resolution of any lawsuits, including any timely-filed by claimants whose claims the corporation rejected;
- Liquidation of remaining corporate assets in accordance with the plan of liquidation;
- Preparation and filing of all final tax returns;
- Withdrawals or surrender of qualifications to do business in other states; and
- Final distributions to creditors and, if funds remain, to applicable shareholders.
In the right situation, a dissolution can be the best approach to formally wind down a corporation’s business and corporate existence. As with all corporate governance matters, however, the corporation’s board and management should get legal advice tailored to the corporation, its business, and creditors, and guidance throughout the dissolution process.
Last reviewed: March 23, 2023