Closing a business entity isn’t just about locking the doors or shutting down a website—it involves a series of legal and tax steps that, if overlooked, can cause headaches long after operations cease. Whether you’re winding down a side hustle or stepping away from a larger business, it’s important to understand the legal and tax steps involved—so you don’t end up dealing with penalties or leftover obligations later.
There are two aspects to closing a business that you should be aware of. One side is the legal side (handled by an attorney) and the other is tax compliance (handled by a CPA, like us).
⚖️Legal Implications of Closing a Business
On the legal side, you must legally dissolve the entity with the state in which it’s registered (all if applicable). Without proper dissolution, your business may incur tax obligations, fees, and penalties for failing to file required reports. Before starting any processes, ensure you have hired an attorney to avoid legal troubles.
Here are the key legal steps to consider:
1. File Articles of Dissolution
To formally end your LLC or corporation, you’ll need to file a dissolution document with the state’s Secretary of State or similar agency. Each state has its own process and filing fee.
Why it matters: Without this filing, your business is still considered active and liable for taxes and annual reports!
2. Terminate Contracts
Notify and, where necessary, renegotiate or terminate contracts with:
- Vendors
- Clients
- Landlords (for leases)
- Employees
Be sure to review all active contracts for any cancellation clauses and/or fees. Remember to review any other contracts tied to your business. Give enough notice to avoid any legal or financial issues.
3. Settle Debts and Notify Creditors
All outstanding debts and liabilities must be resolved. This includes loans, lines of credit, and unpaid invoices. Some states require you to publish a “Notice to Creditors” to limit liability from future claims.
4. Distribute Assets
Once any debt is paid, you can legally distribute any remaining assets to owners or shareholders. Important things to remember are:
Reassign or cancel business licenses and permits
Transfer or protect intellectual property
Document all asset distributions for recordkeeping purposes
💰Tax Implications of Closing a Business
On the tax side, when closing a business, managing these tasks is equally critical – and potentially more costly if overlooked. Incomplete or missed notices can lead to penalties or audits.
Here is what will be addressed:
1. File Final Tax Returns
You must file final federal, state, and local tax returns. For federal returns, check the “final return” box on applicable forms:
- Form 1120 for corporations
- Form 1065 for partnerships
- Include Schedules K-1 where required
If you had any staff, you will need to additionally file employment tax returns (Forms 941, W-2, W-4, etc).
2. Cancel EIN and State Tax Accounts
Once your final returns are submitted, notify the IRS to close your Employer Identification Number (EIN) account. You’ll also need to:
- Close state tax accounts (sales tax, franchise tax, etc.)
- Cancel local permits or business licenses tied to tax filing
Pro Tip: Some states require “tax clearance” before approving dissolution
3. Address Debt Forgiveness and Asset Sales
If your business has any forgiven debt, the IRS may treat that amount as taxable income. Similarly, the sale of business assets could trigger capital gains taxes. Keep detailed records and consult a tax professional to minimize liabilities.
4. Retain Records
Even after closure, you’ll need to keep records for 3–7 years, depending on your state and type of filing. This includes tax returns, final payroll, and dissolution documents.
Wrapping Up
Properly closing a business isn’t just about compliance—it’s about protecting your financial future. By addressing both the legal and tax steps, you reduce the risk of future liability and ensure a smoother transition for everyone involved.
If you’re unsure about any part of the process, it’s worth consulting a tax advisor and/or an attorney to make sure you’re covered. Reach out to us to get a consultation scheduled here.
Leave a Reply