The shutdown of more than 10,000 small businesses in 2020 is an issue too pronounced to ignore. A majority of these businesses succumbed to the existential threat of the Coronavirus pandemic.
When curtains finally come down on a business, a smooth winding-up process becomes the subject to deal with before anything else. Unfortunately, not many business owners anticipate a sudden closure of their businesses.
When it comes to closing down a business, understanding the legal circumstances that prevail can help you handle things the right way. That’s when understanding the difference between company dissolution and liquidation becomes essential.
In this article, we’ll compare the liquidation vs. dissolution of a company. Read on to learn more.
What Is a Dissolution?
This has to be the most common question asked whenever a company is preparing for a shutdown.
The need for a dissolution comes when a business has served its intended purpose, and there’s no desire to continue its operations. One of the most common causes of dissolution is the retirement of the founder. This often happens when the founder was the mission carrier.
For such a business to successfully dissolve, some paperwork is required to inform the government you’ve voluntarily decided to close the business.
What Is Liquidation?
When a company goes through liquidation, it’s often a response to circumstances, not necessarily a voluntary decision.
Liquidation refers to the selling of a company’s assets to pay creditors. The need for liquidation arises when a company is no longer able to meet its financial obligations as they fall due.
Therefore, compared to dissolution, a liquidation process is often an imposed outcome.
In the current pandemic, most of the companies closing down have undergone the liquidation process. This process brings a business to a sudden halt by distributing all the assets to the respective creditors and claimants.
Circumstances for Dissolution
As noted, the process of dissolution is often voluntary. Nonetheless, a company needs to satisfy specific legal steps for the process to be legally binding.
A company qualifies for dissolution if it meets the following stipulations.
Hasn’t Traded for At Least Three Months
Before applying for a dissolution certificate, a company must have ceased operations at least three months before the request. This is to ensure that the business meets all underlying financial obligations and procedures before closure.
As such, you can’t make an abrupt decision to dissolve an existing enterprise. The process must be systematic.
The Business Hasn’t Changed Names in the Last Three Months
The process of company dissolution cannot kick start if you have changed your business’s legal names recently. The slightest alteration to the original title could derail the dissolution process.
If the Company Is Not Facing Liquidation
The intention to dissolve a company shouldn’t be an attempt to circumvent the legal process of liquidation. Therefore, the three months window provided by law should help determine that the business isn’t expecting claims from creditors.
The company seeking to dissolve shouldn’t have any underlying agreements with creditors regarding the payment of pending debts. The stipulation is necessary to avoid any future legal tussle after the dissolution of the enterprise.
Filing Form DSO1
Another critical difference between a dissolution and a liquidation is in the paperwork.
A company dissolution process is only complete in writing after submission of the DSO1 form. This form is only legally binding if the business satisfies all the above stipulations.
In case the company has inherent debts or has been insolvent, then an insolvency practitioner can provide legal counsel. However, you first need to have a company secretary by your side to act as a point person when going through such an administrative matter.
Conditions for Liquidation
The conditions that support company liquidation differ from those of dissolution. Here are some of the ordinary circumstances for liquidation.
In case of Members Voluntary Liquidation
One of the rare but probable causes of liquidation is where a company’s directors wish to close down. The decision could be due to the need to raise funds for a different venture.
Members’ voluntary liquidation may be confused for dissolution in some cases. However, this kind of arrangement is a case of voluntary liquidation.
In Case of Compulsory Liquidation
Most causes of liquidation are beyond individual control. When a company fails to meet specific financial obligations, the business ends up facing imposed liquidation.
In imposed liquidation, business assets must be divided among the creditors. Currently, creditors recover close to 91% of the total owed in case of compulsory liquidation.
In case of Binding Liquidation
When things fail to work out in business, both creditors and company owners may agree. The agreement may be to pay such creditors a certain amount of the money owed within specific periods.
This type of liquidation is binding, where at least 75% of the creditors agree to the arrangement.
Company Dissolution Is Different From Liquidation
Operating a company is a daunting task. Most companies exist as going concerns. This means that the focus is often on future growth.
However, at times, due to underlying issues, such companies shut down. If the shutdown is voluntary and the company is not indebted, it can apply for company dissolution.
However, if the company cannot meet its financial obligations, it might need to sell its assets to pay creditors. In law, this outcome is called liquidation.
Did you understand the difference between dissolution and liquidation? Would you like to understand the meaning of other business terms? Keep reading our blogs and get to know them.