The Worst Way to Start Corporate Dissolution

A business may need to close operations at some point in time. The Houston Chronicle reminds us that this is termed “dissolution”. When dealing with corporate dissolution, there are a few essential steps that a business needs to follow. In this article, we’ll examine the very worst way a company can set about dissolution proceedings.

Setting the Stage – The Facts

Amid the backdrop of the 1980s, Stechler and Sapirstein incorporated a retail business to sell furniture. Around the 2000s, Stechler’s son joined the company. Two named plaintiffs in the case, 2901 Furniture Outlet, Inc., and Corner Furniture Discount Center, Inc. (known as the “Furniture Entities”) were operating entities. Attached to these two operating companies were two holding companies, 2926 Realty Corp. and Rongar Realty of N.Y., Inc. (the “Realty Entities”).

In 2018, the Stechlers removed Sapirstein from the company as a director and officer, barring him from making company decisions because of the discovery of the former’s embezzlement. The Furniture Entities went on to sue Sapirstein for fraud, conversion, being a faithless servant, and breach of fiduciary duty.

Sapirstein responded to claims made by the Furniture Entities and alleged counterclaims against both them and the Realty Entities. One of the counterclaims focused on dissolution based on “oppression” and “waste.”

The Faux Pas

Sapirstein’s dissolution counterclaim was challenged by the four entities in that it didn’t follow any of the procedures the court and the petitioner needed to file to make the counterclaim valid. The entitled proceeded to file a dismissal motion since the foundation of Sapirstein’s counterclaim was invalid. Sapirstein then challenged the dismissal. Unfortunately, he attempted to do so in a very unorthodox manner. To legitimize his initial claim, Sapirstein attempted to belatedly file an order to show cause, petition, and declaration for dissolution. Filing the order in the middle of the trial, after he had already submitted his answer and his counterclaim was damning. The plaintiffs seized upon Sapirstein’s folly and claimed that his belated filing (which the court clerk refused even to process) wasn’t enough to correct his initial procedural effects.

The Result

Justice Franco, in his decision, noted that a “proponent of dissolution must comply with Business Corporation Law 1105 and 1106”, which Sapirstein failed to follow. The judge continued, “[t]here must be strict compliance with the procedures set forth” within the state statute. Sapirstein had a method of amending the original order, as Justice Franco noted. However, his attempt to start a new filing wasn’t the right way to approach the situation, mostly as the initial order was already mid-trial.

Follow Up

Sapirstein actually filed another order of dissolution against Corner Furniture just nine days later. Unfortunately, this filing was tainted by his previous attempts, and the court refused to sign off on his order to show cause for procedural defects. Sapirstein had to make four corrections, and in his fifth filing, his order was approved. What we should learn from this is, while it’s tempting to counterclaim with corporate dissolution, the safe method would be to file a separate dissolution proceeding.

The Right Way to do Corporate Dissolution

Company dissolution can take place in either voluntary or involuntary methods. In a voluntary dissolution, the owner or shareholders are required to file a Notice of Dissolution to the Secretary of State. If a business fails to pay its taxes or has a reputation for tax avoidance or evasion, the government may force it to dissolve involuntarily.

Liquidating Company Assets

Liquidation simply means that the business moves to sell any assets it currently owns that are not being used as collateral for loans. If the business has the asset that’s being used for collateral, it must forfeit that asset to the person or institution with which the loan resides. If, at the time of dissolution, the company is solvent, then once liquidation of assets is complete, the money is returned to shareholders. 

Settling Any Debts Remaining

If a business is facing dissolution, it must settle with its creditors. Any liabilities that the business incurred before it closed, all short-term debts, and all goods and services it still has outstanding need to be settled before the business shuts its doors. Among these debts are taxes, and the company must meet its obligation to federal and state taxes before they can close. The IRS also expects final tax forms to be filled out and sent, as soon as the final payroll has been distributed to employees. Any cash left after this step goes to the shareholders.

Notify Parties That May Be Interested

Aside from paying off all the company’s debts, the business must inform anyone that may be interested that they intend to close. This includes debtors, creditors, shareholders, employees, customers, and owners. The final legal notice of closure presents individuals or the government with the opportunity to bring claims against the business or inform the company of any unpaid fees or outstanding taxes it may not have settled. Notification laws vary by state and some even have the requirement that the company’s dissolution be recorded in the local newspaper, so that parties that the business may not even know can bring claims against the company if liable.

Filing the Paperwork

The very last step in the dissolution process for a business is filing the paperwork. When you registered your business, it’s likely you filed articles or organization or incorporation. The articles of dissolution are the opposite of the articles of incorporation or organization. Through a legal framework, it ends the existence of the corporate entity.

If you fail to file dissolution paperwork, you leave yourself and all the other shareholders at risk of liability proceedings. The government will note the lack of final filing and will automatically assume that the business is still in operation. Taxes will become due from the company and failure to file them will lead to action from the IRS. To avoid these problems, it’s essential that you finalize the paperwork filing for a closed business.