It is a measure of our natural optimism that at one time or another most business people have at least given thought to incorporating a business. At the same time, few of us think willingly about the other end of a corporation’s existence - dissolution.
Once incorporated, the life of a corporation is theoretically perpetual. That is, a corporation will continue in existence unless and until it is merged, divided or consolidated into another corporation, or else dissolved. Even if a corporation is abandoned by its shareholders and its franchise tax not paid, the corporation still continues on in a state of legal limbo. Indeed, this is often the case.
When shareholders have no further use for a corporation, it is not uncommon for the shareholders to drain it of its remaining assets and move on to bigger and better. Often such a careless approach will have no lasting repercussions for the shareholders. But without proceeding through the formalities of dissolution, the shareholders of the forgotten corporation may live for years with the uncertainty of whether and when dormant claims might someday be asserted against either the corporation or the assets which the shareholders withdrew from the corporation. While it is often casually assumed that it is a corporation’s creditors who will reap the primary benefit of a formal dissolution process, the corporation’s shareholders often receive an equal if not greater benefit from formally dissolving a corporation rather than simply abandoning the empty corporate shell.
Pennsylvania’s statutes for the dissolution of a business corporation, contained within the Pennsylvania Business Corporation law, provide an orderly procedure for dissolution of the corporation, and establish the date beyond which shareholders need no longer be concerned about the possibility of creditors asserting claims which the shareholders will have to defend.
Under Pennsylvania law, the voluntary dissolution of a corporation that has previously commenced business is a multi-step process, though not as complicated as it might first appear. First, after consulting with a tax expert to determine the relevant section of the Internal Revenue Code under which the corporation is to be liquidated, the board of directors must adopt a plan of liquidation providing for the payment of the indebtedness of the corporation, including liquidation expenses. Once adopted by the board of directors, the plan of liquidation must be submitted to a properly convened meeting of the shareholders for approval by simple majority vote of the shareholders.
Once the plan of liquidation has been approved by both directors and shareholders, the corporation is required to provide notice of the proposed dissolution and liquidation. Specifically, the corporation must provide written notice to all known creditors that the corporation has commenced the winding up of its affairs. The corporation must also provide notice to the Internal Revenue Service by filing IRS Form 966. Further, the corporation must provide notice by certified or registered mail to each municipality in which the corporation has a registered office or place of business, and must also file an application for Corporate Clearance Certificate with the Pennsylvania Department of Revenue and Bureau of Employment Security of the Department of Labor and Industry. Final corporate tax returns must also be prepared and filed together with the application for Corporate Clearance Certificate. Only after the corporation has obtained a Corporate Clearance Certificate evidencing that the corporation has satisfied or settled all of its tax obligations to the Commonwealth of Pennsylvania may it proceed with final dissolution. Finally, the proposed dissolution must be advertised in the local county law reporter and in a newspaper of general circulation, thereby providing other potential creditors with notice of the proposed dissolution. After providing the required notices, the corporation must then proceed to carry out its plan of liquidation of assets by the marshalling and liquidating of its assets and the compromise of its claims, which can be done by corporate officers directly or by a trustee appointed to supervise and carry out the liquidation.
In adopting and carrying out a plan of liquidation, it is critical to understand that all liabilities of the corporation, including loans from shareholders and officers, must be paid in full or compromised with the respective creditors before shareholders are entitled to receive any distribution from the remaining assets of the corporation. Thus, if a corporation does not have sufficient assets to discharge its liabilities, the corporation must apply its liquidated assets fairly and equitably in the payment of liabilities, and the shareholders will, unfortunately, be entitled to no distribution of assets on account of their investments in the corporation.
Once the assets of the corporation have been properly liquidated and applied toward the payment of claims against the corporation, or once adequate provision for the discharge of these liabilities has been made, the corporation may then file its articles of dissolution and corporate clearance certificate with the Pennsylvania Department of State, and file an out of existence certificate with the Pennsylvania Department of Revenue. While it is not uncommon for a corporation to try to avoid the multi-step dissolution process, and instead jump straight to the end of the process by merely filing an out of existence certificate, the courts have held that the mere filing of an out of existence certificate is not a substitute for dissolution.
The Pennsylvania Business Corporation Law at 15 P.S. § 1979 provides that the dissolution of a business corporation does not eliminate or impair any claim existing against the corporation, its officers, directors or shareholders if an action or proceeding on that claim is brought within two years after the date of dissolution or such shorter time period as may provided by another applicable statute of limitations. The flip side of this rule, however, is that the filing of articles of dissolution starts the running of a two-year deadline for the filing of any claims against the corporation. After the two years has run, any claims not by then placed in suit will be barred by operation of the statute of limitations at 15 P.S. § 1979. Without properly proceeding through the dissolution process, a defunct corporation’s former shareholders may have to live much longer with the uncertainty of whether there will someday be a lawsuit they might have to defend on account of a liability of the corporation.
The question of dissolution is a more complicated one where the shareholders are in disagreement about whether the corporation should be dissolved. The problem arises in corporations with two fifty percent shareholders, where only one sees need for dissolution, or in corporations with three or more shareholders, where only a minority of the shareholders seeks dissolution. Where the board of directors is deadlocked on dissolution or where there is less than a majority of voting shares in favor of dissolution, a shareholder or director may petition the court of common pleas to order the winding up and involuntary dissolution of the corporation if and only if one of the following is established:
- The acts of the directors, or those in control of the corporation are illegal, oppressive or fraudulent and that it is beneficial to the interests of the shareholders that the corporation be wound up and dissolved;
- The corporate assets are being misapplied or wasted, and it is beneficial to the interests of the shareholders that the corporation be wound up and dissolved; or
- The directors are deadlocked in the direction of the management of the business and affairs of the corporation and the shareholders are unable to break the deadlock, such that irreparable injury to the corporation is being suffered or is threatened as a result.
In the absence of illegal or fraudulent activity, a misappropriation of assets to the detriment of one or more shareholders, or irreconcilable differences amongst the board of directors, the corporation’s unhappy shareholders may have no recourse but to suffer the perceived mismanagement or sell their stock, often at a tremendous loss.
Even where none of the shareholders of a corporation seeks dissolution of the corporation, a corporation may be involuntarily dissolved upon the application of a creditor whose claim has been reduced to judgment if the claim has remained unsatisfied following execution efforts, and if the creditor establishes that the corporation is unable to discharge its liabilities in the regular course of business and is unable to afford reasonable security to those creditors who may deal with it. It must be understood, however, that involuntary dissolution of a corporation upon the application of creditor is an extraordinary remedy that a court will not generally grant lightly.
Unfortunately, corporations do not die a natural death. When it is time for a corporation’s existence to cease, shareholders and directors should consult with legal counsel to make sure that the process is handled so as to minimize the risk that the shareholders may someday be held to account. The attorneys of Wolf, Baldwin & Associates, P.C. can provide the legal guidance necessary to assist you in dissolving a Pennsylvania corporation. We can help protect corporate shareholders so that claims do not crop up after the corporation has ceased to function. Combined, our attorneys have counseled small and medium-sized businesses for over fifty years. If you need advice on dissolution, click here to contact us for an initial consultation today.
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