When you're closing a business, take precautions to guard yourself from liability before you pay out money and assets to the business owners. Before any cash or property can be distributed, you need to take care of the business's liabilities.
Before dividing up the remaining value of your business — or taking it home with you — be sure to:
- collect outstanding accounts receivable
- liquidate (sell) your business assets and inventory to the extent possible
- pay your employees (including vacation if your state requires it) and independent contractors
- cancel leases and settle contracts (and pay any deficiencies or penalties), and
- make your final tax payments, including sales, payroll, and unemployment taxes and business income taxes.
Pay Creditors and Loans to Business Owners
First, you'll need to pay off all the bills you owe and all creditors' claims that you know of—or settle them for less than the full amount if possible.
Don't distribute assets to owners if debts aren't paid. State law prohibits a corporation, LLC, or partnership from distributing its assets to the owners if the company cannot pay all of its debts. Not only are there penalties for doing so, but unpaid creditors can sue for the return of the assets from the owners. And the directors, officers, members, or partners of the company who approved the illegal distributions of assets can be held personally liable for the amount of the distributions.
Next, you can pay off any loans to the business owners—and sign the appropriate paperwork to document it.
If there is a possibility that a creditor may bring a claim after the company is dissolved, you and the other owners should set aside a contingency fund to pay any liabilities (or taxes) that surface after the dissolution, rather than distributing the assets to yourselves. Creditors you aren't aware of when you close your business are called unknown creditors.
Distributing Money and Business Assets
If there is still money left over after taking care of all of the above, the remaining cash and assets can usually be distributed to the owners based on their pro rata share of ownership. How the remaining cash and assets are distributed to the owners depends on the structure of the company.
Sole Proprietor. After paying debts and loans, the money and assets are yours.
Corporations. In a corporation, the remaining cash and assets are totaled and then divided by the number of shares owned by shareholders. The corporation pays the shareholders the amount of cash or assets that's proportionate to the number of shares each shareholder owns, and in exchange the shareholders return their outstanding shares.
Partnerships and LLCs. In a partnership or LLC, distributions are made to members and partners according to the balance in each member or partner's capital account. (All partners or members have capital accounts that start off with their initial investments in the business and are increased when profits are allocated to them and decreased when profits are distributed to them.) If there isn't sufficient cash to pay each owner the amount in the capital account, as is likely, whatever cash or assets that remain are split among the owners based on the relative size of each owner's capital account.
Winding Up Your Accounts
When all is said and done, be sure to close out your business bank account and cancel your business credit cards. However, you may want to wait a few weeks or months to close your checking account—no matter how organized you are, a bill or debt or two are certain to arise after you close.
If your business operated as a partnership, corporation, or LLC, be sure to dissolve the LLC or corporation or partnership. Some states require that the assets be distributed before the entity can be officially dissolved; other states requires you to file your final tax returns before you file the dissolution papers.
Stay available. Even though your business is ending on a not-so-successful note, make sure that people who might need to get in touch with you have your contact information. For instance, a former customer may need a referral, or a former employee may need a reference. Leave contact information with your business contacts, colleagues, employees, and customers. You never know when a contact can help you out in the future, so it pays to keep your network alive.
If you are worried about unknown creditors, speak to a local business lawyer before distributing the business's assets.