When closing a business, there are certain steps every business owner must be sure to follow.
Whether it’s for financial reasons, retirement, or simply because you’ve had enough of the business, there are myriad issues involved in winding down a business. Closing your business isn’t as easy as simply hanging a “closed” sign in the window. There are financial ramifications, tax issues, and personal relationships with employees, customers and suppliers to consider during the process of closing the business.
While closing a business is a difficult facet of the business experience (all owners know it’s an inherent risk of doing business), it can be made a smoother and less traumatic experience if you inform yourself of the basic steps on how to close a business. Whether you’re a sole proprietor, partnership, limited liability company (LLC) or a corporation, the following guidelines should help you cover the basics of closing your business in a more controlled, less stressful manner.
Close the Business As Required by Your Business Articles
If you’re a sole proprietor, you don’t need to worry about closing according to the requirements of business organizational documents. It’s an unwelcome event, but it’s a decision you make on your own, without the need to consult with partners or board members.
If your business is a general partnership that doesn’t have a written partnership agreement, then all you need to do is give notice to your partner of your express desire to withdraw from the partnership. Doing this in writing is the best method.
On the other hand, if your business is a partnership with a written partnership agreement, an LLC, or a corporation, you will need to follow the rules of dissolution contained in the partnership agreement, articles of incorporation, or state laws. Typically, such agreements contain clauses that require a two-thirds or majority vote in order to dissolve the business.
These operating documents should be archived in the company’s records and filed with your state’s secretary of state. If ending the business is what you want to do, be sure to follow the rules to the letter, to avoid disputes later on.
File with the State
Sole proprietors don’t have to file anything with the state. But obviously, you’ll want to resolve any outstanding issues with creditors, suppliers and customers.
All limited and general partnerships that filed with the state at the inception of the partnership must file dissolution papers with the state. Even if your partnership isn’t required to file paperwork with the state, it’s always a good idea to do so. By filing dissolution papers with the state, you place creditors on notice that the business cannot incur any further business debt. Because partners are personally liable for business debts of the partnership, and any partner can make decisions that obligate the partnership, if the intent is to end the partnership, you should give notice to the state so that your partners can’t burden the partnership with further obligations or debt.
Once you’ve voted to dissolve an LLC or corporation, you must file paperwork with the state, certifying the decision to terminate the business. This paperwork will relieve the company of future tax burdens (the company is still liable for all taxes in the past, of course), and give official notice that the company can no longer take on business debt. If the company transacts business in other states, you’ll have to give notice to those states as well.
Filing a Certificate of Dissolution (also known as Articles of Dissolution) is a process that varies from state to state. In some states, filing this certificate must be done before notifying creditors, while in other states you must notify creditors first. In either case, creditors’ claims must be resolved in some fashion— either by payment in full, a compromise with them, or bankruptcy.
Additionally, in some states, you are required to clear your back taxes before the state will allow you to file for dissolution. This so-called “tax clearance” comes from the state’s tax agency and simply states that the business is current on its taxes.
Notify the IRS and State and Local Tax Agencies
When you end a business, the company is still liable for any taxes for the prior and current year. This means that you must continue making deductions from paychecks and continue payroll reporting obligations. You’ll need to file your quarterly or annual taxes, and capital gains and liquidations forms.
You’ll also be responsible for all final tax forms that need to be filed. This includes income tax, any sales tax that has been collected, and payroll taxes. Certain federal tax forms (such as the federal unemployment tax return and the employer federal tax return) contain checkboxes indicating that it will be the last return filed by the business. You’ll need to watch out for tax due dates that differ from the norm. For example, a Form 1065 must be filed within three months of the closing date when a partnership is terminated.
Of particular concern to the IRS, and therefore to all business owners, is the payroll tax. Payroll taxes that remain unpaid after a business closes are a big deal to the IRS. For one, Uncle Sam doesn’t like to be shortchanged, and with payroll taxes, you’re actually taking money out of employees’ pockets. For these reasons, the IRS will hold owners of a business personally liable for any unpaid payroll taxes. This means that the IRS can go after your personal assets, such as cars and real estate, in order to fulfill your tax obligations.
The IRS has a comprehensive checklist for business owners who are preparing to shut down. The checklist contains forms that must be filled out or continued to be filed as the business shuts down. The checklist can be found here.
Consulting an accountant, tax advisor, or attorney is advised in order to meet the particular requirements of your locality and state tax agencies.
Cancel Business Licenses
In addition to reporting to local, state, and federal tax agencies, you will need to file paperwork other local agencies to terminate business licenses or permits. By canceling licenses and permits, you prevent others from using your business account or name to run a business and leave you holding the bag for taxes or penalties. Find the agency that granted any license you may have and terminate everything.
Notification to Creditors
Whether you’re a partnership, LLC or corporation, businesses have an obligation to creditors to inform them of an impending closing. You’ll need to inform lenders, insurers, suppliers, vendors, and service providers that the business will no longer be contracting for their services and give a method as to how the company intends to wind up its business with those creditors.
Corporations and LLCs are required to inform creditors:
*that the company has been dissolved or intends to dissolve
*of a mailing address to send claims
*of deadlines to submit claims (e.g., 120 days from the date of the notice)
Certain states may also require a dissolving company to place an ad in the local newspaper or other publication announcing the closing. In this way, the public and other potential creditors are put on constructive notice (meaning they may not receive a direct notification about the closing but at least have an opportunity to be informed) of the impending closing and can take appropriate action.
Your state may also allow creditors to make claims even after your deadline for claims expires (assuming the creditor was unknown by the company at the time or the creditor was not given notice of the dissolution). The laws of each state differ, so if you have any concerns about your state or local laws, you should consult a small business attorney to help guide you through the process.
In addition to lenders, who will want to know how their investment will be paid back, and suppliers and service providers, who will want to make plans for last shipments, returns, and payments, you will need to inform any business insurers of any liabilities you may have. You need to be truthful with insurers about potential legal issues that may be brought up against the company. By keeping potential liabilities secret, you risk losing coverage and being exposed to paying damages out of your own pocket.
Settling Creditor Claims
Once you get claims from creditors, you’ll need to inspect the claims and either accept or reject them. Since creditors may come out of the woodwork to claim a portion of the pot, and that pot is likely very limited, you’ll need to be judicious about which claims you accept. An attorney would be advisable here, as state laws may govern what claims you can reject and what reasons are valid.
Assuming you have valid claims, the next step is to either pay in full or work out a compromise with the creditor. Since closing the business indicates to creditors that the business is financially unhealthy, they may be more willing to accept less than the full value of their investment, credit, or product.
Collecting Money Owed to the Business
The flip side of settling creditor claims is to collect any monies owed to the company. You don’t have any obligation to tell those who owe you money that you’re closing the business (unless they’re clients or employees, depending on your state’s laws), and in fact it may hinder your collection process if you tell them. Try to collect this money as soon as possible, as it will be much harder to collect money on behalf of a company that no longer exists.
Others You Need to Inform
You will also need to let your landlord and, of course, your employees, know of the intent to close the business. For the landlord, you’ll need to simply follow the rules outlined in your lease agreement regarding termination of the lease.
Most lease agreements have language stating that the tenant is responsible for the months remaining on the lease, but there are two considerations there. First, while the letter of the agreement may state that you must pay for the remaining months, landlords have an implied duty to mitigate their damages. In plain English, this means that when a landlord faces losses from a terminated lease, he has a duty to look for another tenant to take your place and thereby reduce his losses. You will have to pay rent until such a tenant is found, however. The second consideration is that landlords like good tenants, and rather than spend money on attorneys fees to make you pay for rent that they know you probably don’t have, a landlord may simply release you from the lease.
Clients and employees should also be informed. Being considerate and giving ample warning is not only proper business etiquette, it maintains good relationships. Former clients and employees can be contacted when you open your next business, as long as you leave on good terms. Depending on your industry, clients may be required by law to be informed before your business closes.
Customers should also be told of the impending closing. Be sure to service their orders to the best of your ability. These people could be your first customers at your next business venture. Also, as noted above, try to collect money owed to you while the business is still running.
Selling and Distributing Your Assets
After you’ve settled the claims of your creditors, all that’s left is the business assets, both tangible (e.g., business equipment or stocks) and intangible (trademarks and goodwill). The distribution of these assets remains proportional to the stake of each owner in the business. For example, if you are a 60% partner and you have two junior partners at 20% each, then any sale or distribution of assets will be divided 60/20/20.
If you own a retail business, don’t sell your business short while you close. Use the closing as an opportunity to maintain goodwill with regular customers by offering them the first opportunity to buy your products at a deep discount before offering them to the public. You should serve your customers with your normal professional demeanor to ensure their patronage in any future endeavor.
If you have stock or financial assets that need to be distributed to owners, be sure to consult an attorney to advise you about state laws governing such procedures.
Closing a business is never pleasant. You’ve put in hard work, invested money, and the business may have been your passion. Having a well thought out shut down plan can alleviate some of the stress and trauma related to closing your business.