What is the difference between dissolution and termination of an entity?

This article distinguishes between the terms “dissolution” and “termination” as they pertain to Virginia corporations and Virginia limited liability companies (generically referred to in this article as “entities”). These terms are often used interchangeably, but have distinct legal meanings. Dissolution is the winding up of the affairs of the entity in advance of the termination of the entity. Termination of the entity occurs when the entity ceases to legally exist.

The phrase “winding up of the affairs” generally means the payment of all debts, liabilities, and obligations of the entity, and the liquidation and/or distribution of any remaining assets of the entity to the owners of the entity. Creditors of the entity that will not be paid in full as part of the dissolution process must be notified of the dissolution so they may assert a claim against the entity.

Once an entity has elected to dissolve, the entity may no longer carry on any business affairs other than the aforementioned winding up. Once the affairs of the entity have been wound up (but not before), the existence of the entity can be formally terminated by filing Articles of Termination/Cancellation with the Virginia State Corporation Commission (SCC). Prior to filing these Articles, all required fees and penalties owed to the SCC must be paid; and, a corporation must have paid all its state taxes.

Most entities that go out of business do not go through a formal dissolution or termination process. The owners simply fail to pay the annual fee owed to the SCC, and the SCC automatically terminates the existence of the entity three (3) months after the final due date for the annual fee.

However, some business owners do elect to follow a formal dissolution and cancellation process in order to resolve creditor claims, to avoid bankruptcy, and/or to protect the owners from potential personal liability for debts of the entity. Furthermore, Virginia courts can force a dissolution upon the petition of an individual business owner, and oversee the winding up of the entity’s affairs. This is known as a “judicial dissolution”, which can be an expensive process, but is oftentimes the only viable way to break a deadlock between business owners.

In the next issue of this newsletter, we will discuss the benefits of formal termination versus automatic cancellation by the SCC.

If your entity is registered or qualified to do business in other states, then you must follow the rules of that state to terminate the existence of the entity in that state. In addition, final federal and state tax income and employment tax returns must be filed.