What Is an S Corp?
An S corp is a company — a limited liability company (LLC) or a corporation — that elects the S corp tax designation, which is governed under Subchapter S of the Internal Revenue Code. S corps are taxed as hybrid pass-through tax entities that pass their profits and losses through to their shareholders.
Most of the time, S corps don't have to pay income taxes because their company profits pass directly to their shareholders. S corp owners who work within the company must pay themselves a reasonable salary or wage for the work they perform. The rest of the company’s profits will then pass through to the shareholders in the form of distributions.
How to Close an S Corp
In contrast to other business structures — like sole proprietorships, partnerships, and LLCs — dissolving an S corporation involves a different set of steps. This is especially true for S corps with employees.
Failing to close your S corp correctly can mean you’ll remain responsible for tax filings and potential penalties and fines.
In order to legally dissolve your S corp, you’ll need to take several steps. These include notifying your employees in a timely manner and closing the S corp with the state and the IRS.
Here are the six steps you must take to legally close your S corp:
Step 1: Vote to Dissolve the S Corp
In order to close down an S corporation, you must follow the steps outlined in the business's Articles of Organization.
For single-owner S corps, this might be rather simple. For S corps with more than one shareholder, the Articles of Organization may dictate that the company’s board of directors must hold a formal meeting, pass a resolution, and move to dissolve the corporation.
An S corp also may need to put the decision to a vote among its shareholders and receive a majority of the vote to proceed. Each state has its own rules about what percentage of stockholders constitutes a majority. In some states, it may be a simple majority, while other states require a two-thirds majority to dissolve the S corp.
In nearly all cases, you’ll need to document your vote in writing and maintain these documents in the corporation’s records. This written agreement of dissolution — known as the Articles of Dissolution — must be signed by all owners of the corporation and, usually, submitted to the Secretary of State in order to request the S corp’s formal dissolution.
Step 2: Stop Conducting Business
While this may seem obvious, you’ll need to make a plan to cease doing business when you vote to dissolve an S corporation.
If another entity plans to buy the S corp, the process may just involve putting everything in the name of the new owner and stopping business under the name of the S corp.
If you plan to close your S corp, this process will involve notifying your employees and telling your customers that your business will shut down.
When a corporation seeks to dissolve, it may have certain obligations to its employees that it must meet. These obligations may include providing employees with notice about the closing of the business, issuing final paychecks to them, and paying federal payroll taxes to the IRS.
Giving notice to your employees is not only expected and the right thing to do but also may be required based on the size of your business and the laws in your state. In addition, federal law also states that businesses with more than 100 employees must give at least 60 days' written notice of the business’s closing.
S corps also must give their employees a final paycheck and send all payroll taxes to the IRS. In states where an S corp has employees, state law will dictate how long the company has to distribute final paychecks.
Step 3: Settle Any Liabilities and Debts
Next, you should begin notifying your creditors and lenders that you plan to sell or close the business.
As part of the winding-up process, you’ll need to let your creditors know — in writing — that you are shutting down the S corp and how you plan to handle the company’s liabilities and debts.
Before anything else, you must pay off your S corp’s debts and liabilities with the proceeds from selling the business or liquidating its assets. If you can't pay all of the bills your business has racked up, you may need to look into your options for filing for bankruptcy.
If your S corp needs to file for bankruptcy, don’t ignore your creditors. You must notify your creditors of your bankruptcy plans, and you may need to use any proceeds from the liquidation of the company’s assets to settle the portion of the debts that it can.
If you can't pay off all of your S corporation’s debts, you might have to think about filing for bankruptcy. We suggest talking with an accountant or lawyer to ensure you’ve covered all your bases.
Step 4: Liquidate and Distribute Assets
With a plan in place to take care of its employee obligations, its tax obligations, and its debts and liabilities, an S corp will then need to sell or liquidate and distribute the company’s assets.
Again, if the business is being sold and if it has enough assets to cover its debts and liabilities, this may be a rather simple process.
On the other hand, an S corp must follow federal and state law when deciding how to prioritize its obligations if the company has financial trouble and can’t meet all of its obligations.
First, the S corp must fulfill its employee and tax obligations. This includes employee payroll and payroll taxes.
After an S corp meets its employee and tax responsibilities, creditors have the first right to demand sale proceeds to settle debts in most states. This includes shareholders, who also are creditors because they have the right to demand payment of debts before any ownership-related distributions of assets occur.
Only after an S corp pays all of its creditors and lenders can it distribute any remaining assets to its shareholders. An S corp must follow its bylaws or the default rules in the state where the company is incorporated when making distributions. Distributions are usually made in proportion to how much each shareholder owns of the company — unless the S corp’s bylaws say something different.
Form 4797 (Sales of Business Property) must be filled out every time an S corporation sells any business assets. All assets sold or exchanged when an S corp is dissolved fall under this category.
Step 5: File Articles of Dissolution
S corporations also must file Articles of Dissolution — also known as a Certificate of Dissolution or a Certificate of Termination in some states — with their state and any states in which they are registered as a foreign corporation.
By sending Articles of Dissolution to the state, you can let it know that your S corp is ending or being dissolved. The rules and procedures for dissolving an S corp vary by state. In most states, you’ll need to settle all outstanding state and local tax obligations.
You also may need to cancel any local and state licenses, permits, and registrations that your S corp holds. Some states even make it necessary for S corps to get permission from the state before they can legally close their business and distribute any assets.
Step 6: Close the S Corp With the IRS
S corporations also have several steps they must take to close their business with the IRS, including completing all tax filing obligations, filing Form 966 (Corporation Dissolution or Liquidation), and closing their IRS business accounts.
The first thing you must do to close your S corp with the IRS is to file all of your final local, state, and federal taxes and pay any taxes due. This includes:
- Filing your S corp’s final income taxes, using Form 1120S.
- Completing and filing a final Schedule K-1 for each of your shareholders.
- Filing and paying your final S corp payroll taxes.
- Completing and filing a Form W-2 for each of your employees as well as a Form 1099 MISC for all of your contractors and subcontractors.
In addition to completing final tax filings, S corps also must file Form 966 (Corporate Dissolution or Liquidation) within 30 days of the company’s dissolution or liquidation.
Finally, S corps are responsible for closing their IRS business account and canceling their Employer Identification Number (EIN). To do so, you’ll need to send a letter to the IRS that includes your S corp’s:
- Full Legal Business Name
- Business Address
- Reason for Closing the Account
You can mail your request to close your business account and cancel your EIN to:
Internal Revenue Service
Cincinnati, OH 45999
Taxes are complicated, and the processes and procedures around closing an S corporation can be confusing. To ensure your business's tax returns are prepared accurately, you may want to think about hiring an accountant.
Forms to Close an S Corp With the IRS
You’ll need to file a number of forms with the IRS to make the dissolution of your S corp final. The IRS not only requires you to file your final tax returns and pay all taxes due but also report the dissolution of your S corp and the disposition of its assets.
The forms you may need to file to close your S corp with the IRS include:
- Form 940 (Employer’s Annual Federal Unemployment Tax Return)
- Form 941 (Employer’s Quarterly Federal Tax Return)
- Form W-2 (Wage and Tax Statement)
- Form 1120S (US Income Tax Return for an S Corporation)
- Schedule K-1 (Shareholder’s Share of Income, Deductions, Credits, etc.)
- Form 966 (Corporate Dissolution or Liquidation)
- Form 4797 (Sales of Business Property)
- Form 8594 (Asset Acquisition Statement)
Form 940 (Employer’s Annual Federal Unemployment Tax Return)
Your S corporation will need to fill out a final Form 940 with the IRS. This is the form used to file an employer’s Federal Unemployment Tax Act (FUTA) taxes.
Form 941 (Employer’s Quarterly Federal Tax Return)
You’ll also need to file and make your final payments of your quarterly federal taxes as an employer. You can do this by filing Form 941, which employers use to report the income taxes and payroll taxes they withheld from their employees' earnings as well as their share of Social Security and Medicare taxes.
Form W-2 (Wage and Tax Statement)
Your S corp also must send a Form W-2 to the IRS and to each of your employees to report your employees’ final wages. Form W-2 is the form employers use to report annual employee wages and the amount of taxes deducted from those wages at the conclusion of the calendar year.
Form 1120S (US Income Tax Return for an S Corporation)
To close your S corp with the IRS, you’ll also need to submit your annual tax return by filing Form 1120S. This is the form S corps use to report their income, expenses, deductions, and credits applicable to the business over their final tax year.
Schedule K-1 (Shareholder’s Share of Income, Deductions, Credits, etc.)
Along with your Form 1120S, you’ll need to prepare a final Schedule K-1 for each of your S corp’s shareholders, file them with the IRS, and distribute them to your shareholders. Schedule K-1 is the form used by S corps to report each shareholder’s allocation of the company’s income, expenses, deductions, and credits.
Form 966 (Corporate Dissolution or Liquidation)
S corporations also must send Form 966 to the IRS with the company's final tax return (Form 1120S) in order to officially dissolve the business. Form 966 is required in order to dissolve an S corp or any time an S corp wants to liquidate any of its stock.
Form 4797 (Sales of Business Property)
S corps must file Form 4797 every time they sell or trade a piece of business property. This includes any property sold or traded at the dissolution of an S corporation.
The types of transactions that require Form 4797 include:
- The sale or exchange of any business property.
- The involuntary conversion of business assets.
- The disposition of capital and non-capital assets not reported on Schedule D.
- The gain or loss from certain Section 179 property dispositions by the S corp.
- The recaptured amounts under Sections 179 and 280F(b)(2) when business use falls below 50%.
Form 8594 (Asset Acquisition Statement)
S corps also must file Form 8594 if the sale of the business is what’s prompting the S corp to wind down operations.
According to the IRS, “Both the seller and purchaser of a group of assets that make up a trade or business must use Form 8594 to report such a sale if:
- Goodwill or going concern value attaches, or could attach, to such assets; and
- The purchaser's basis in the assets is determined only by the amount paid for the assets.”