What must, or should, a corporation or LLC do if its owners or managers decide to stop doing business in a state where it has qualified as a foreign entity? This is an issue with increasing relevance as challenging economic times have forced many businesses to cut back their operations. One of the company’s best options is to withdraw as a foreign entity pursuant to the foreign state’s corporation or LLC law.
What should a company do when it stops doing business in a foreign state
Many corporations and LLCs follow a path that goes something like this:
- They start out small, doing business in one state only
- The business is a success and the decision is made to expand operations into other states
- Things do not go as planned, and for financial or other reasons, it is decided to close operations in one or more of the states into which the business had expanded
The decision to expand and do business in foreign states carries with it the need to comply with each foreign state’s corporation or LLC law. This generally requires the company to:
- File an application for authority with the secretary of state (or with whatever the business entity filing office in the state is called) and pay a qualification fee
- Appoint and continually maintain a registered agent for service of process
- File an annual report (or, in some states, a biennial report) and pay a franchise tax or fee
But what about the decision to stop doing business in a state where the company had previously qualified? What, if any, compliance requirements does that decision bring? That is the question we will address.
The first step in determining what, if anything, has to be done when a corporation or LLC stops doing business in a state is to check that state’s corporation or LLC statute.
In general, there is no requirement to make a filing with the secretary of state’s office to notify it that the company is no longer doing business there — as long as the company will continue to exist.
Practice pointer: If the company is dissolving in its home state or merging out of existence, a filing is generally required with the foreign state within a certain period of time after the dissolution or merger is effective. However, this article addresses only companies that will continue to exist.
A corporation or LLC may choose to remain qualified when it is not conducting any business in a state. But remember, as long as it is qualified, it must still comply with the state’s laws. Thus, for example, the company must continue to file its annual report and maintain its registered agent. In order to avoid having to comply with these requirements, a corporation or LLC must enter into a statutory procedure generally known as “withdrawal.” (In some states it is known as “cancellation” – particularly in regards to LLCs).
Withdrawal typically consists of the following steps:
- The payment of all fees and taxes due and the filing of all reports due
- The filing of an application for withdrawal with the filing office
Practice pointer: Typically, the document filed is called a “certificate of withdrawal.” However, the name can vary. To see what document has to be filed in a particular state go to our Corporation Compliance Smart Chart.
A company applying for withdrawal typically has to state on its application that it is current in all of its state tax payments and report filings. However, in some states this statement is not enough. Instead, the company must provide proof that it does not owe any taxes or reports. This proof is known as a tax clearance.
A tax clearance is generally obtained by filing a form with, or sending a request to, the state tax department. After the tax department determines that the company is up-to-date, it will provide a certificate either to the withdrawing company or directly to the filing office.
Practice pointer: In some states, it can take several weeks or months to obtain a tax clearance. It is important to continue to file annual reports and pay taxes during this period. A failure to do so can further delay receipt of the clearance certificate. To see what states require a tax clearance go to our chart.
Service of process
A corporation or LLC that withdraws from a state is still subject to suit there for causes of action arising before withdrawal. That raises the question of how the company can be served with process in the state.
Most states deal with this issue by requiring the corporation or LLC to declare, in its application for withdrawal, that it revokes the authority of its registered agent and appoints the secretary of state as its agent for service of process for any proceeding based on a cause arising while it was authorized to do business.
Consequences of deciding not to withdraw
Upon the effective date of withdrawal, a foreign corporation or LLC is no longer subject to the compliance requirements of the foreign state’s corporation or LLC law. Because withdrawal is not required, some managers or owners of companies may decide to avoid what can be a time-consuming and expensive process and not withdraw. This can be a dangerous decision if they think they do not have to continue to file annual reports or pay franchise taxes.
As long as a corporation or LLC remains qualified, it is subject to the state’s compliance requirements. If the company fails to file required reports or pay taxes, the state laws provide for the imposition of penalties. The states can seek to collect the late fees, fines and interest payments due them. And the company may not be the only party liable. Some states have statutes extending liability to the officers or employees who were responsible for a company’s tax payments or returns, and who willfully failed to pay or file.
Another risk to be aware of is that a corporation or LLC’s delinquent status will be listed on the filing office’s public record. This is a status you may not want a lender or potential business partner searching the company’s name to see. And business identity thieves also search public records looking for businesses where they think no one is paying attention.
A corporation or LLC that stops doing business in a state in which it has qualified to do business may withdraw from the state. This is a process that involves satisfying tax and reporting obligations and filing an application with the secretary of state’s office. In deciding what to do when business is no longer being conducted in a state consider the following:
- Withdrawal is not required by the business entity statutes if the company will continue to exist
- If the decision is made not to withdraw, the company must continue filing annual reports and complying with other requirements of the foreign state’s entity law
- A failure to withdraw and comply can result in penalties for the company and possibly for its officials and can bring other unwanted consequences if its delinquent status is easily discoverable from the state’s public records.