Nonprofit Dissolution: How to do it Right

Nonprofit Dissolution Nonprofit corporations are often faced with tough decisions about their future. For a variety of reasons, a nonprofit’s board may determine that dissolution is the best answer. Causes range from dwindling resources to a reduction in the need for the nonprofit’s services. After a thorough consideration of alternatives, if the Board determines that dissolution is the best option for a nonprofit corporation, there are business and legal steps that must be taken to properly wind down and dissolve it. Properly dissolving a nonprofit corporation provides maximum protection to the directors and officers and permits the corporation to cut-off any unknown creditor claims that may come to light after the corporation has been dissolved. Nonprofit corporations are creatures of state law. Accordingly, state law dictates the process to create or dissolve a nonprofit corporation.

Legal Steps. Every state nonprofit corporation statute sets forth the process for dissolving a nonprofit corporation. In Arizona, the legal steps to dissolve the Corporation are as follows:

  1. Board Approves Plan of Dissolution. The Board must pass a resolution approving the proposal to dissolve and setting forth a Plan of Dissolution. The Plan of Dissolution needs to be provided with the notice of the meeting to consider the dissolution. If the nonprofit corporation is tax-exempt, the plan should direct the remaining assets of the nonprofit corporation, if any, to another qualified recipient in a manner that complies with the Corporation’s dissolution provision in its governing documents.
  2. File Articles of Dissolution. The dissolving corporation must then file Articles of Dissolution with the Arizona Corporation Commission.
  3. Publish Articles of Dissolution. Arizona law requires Articles of Dissolution to be published within 60 days after the Arizona Corporation Commission has approved the filing of the Articles of Dissolution. Other states may not require publication of the Articles of Dissolution and may give a different name to the operative document. Arizona law requires the Affidavit of Publication to must be filed with the Arizona Corporation Commission within 90 days the Articles of Dissolution are approved.
  4. Notify Creditors. Next, the Corporation will want to appoint someone to determine any vendors, service providers, or other creditors, who will have to be notified of the dissolution. The dissolving corporation must notify known creditors by letter and unknown creditors by publication.
  5. Pay and/or Settle Debts. The dissolving corporation must pay its remaining debts. To satisfy its creditors, the nonprofit may need to liquidate its assets such as real property, vehicles, furnishings, computers, etc.
  6. File Final Tax Returns.  In Arizona, dissolving corporations must file the final Form 990 or 990-EZ and a corresponding AZ Form 99 if one is due. The final tax filing is generally based on a short tax year that ends on the date the state approves the Articles of Dissolution. The final form 990 should reflect that is the final return by checking  the “Terminated” box in the header area on Page 1 of the return to alert the IRS that the corporation is dissolving. If the full Form 990 is being filed, it must also include a completed Schedule N (Liquidation, Termination, Dissolution, or Significant Disposition of Assets).
  7. Request Certificate of Tax Clearance. Not all states include this step; however, Arizona will not provide a dissolution certificate without proof that the corporation has satisfied its tax obligations. This means that final tax returns must be filed for the final tax year prior to submitting the application for a tax clearance letter to the Arizona Department of Revenue. Once the tax clearance letter has been received, it must be filed with the Arizona Corporation Commission to obtain a final Certificate of Dissolution.

Business Steps.  Once the Board has made a final decision to dissolve the nonprofit corporation and hired counsel to handle the legal steps outlined above, the Board’s focus should shift to settling the Corporations debts and liabilities and distributing the Corporation’s remaining assets.

The complexity of the dissolution process will depend on many things, including the existence of leases, employees, employee benefit plans and other contracts and ongoing commitments that must be settled and terminated. There is also the issue of assets which may need to be liquidated to settle the organization’s debts. It is also important to consider whether the nonprofit’s directors and officer’s liability insurance policy is claims-made or occurrence based. Claims-made insurance is most common. Claims based policies mean that the policy covers claims based on the date a lawsuit is filed rather than the date of the event leading to the claim. If the nonprofit’s insurance policy is claims-made, it is a good idea to consider prepaying for several years of tail coverage to extend protection for a few years to protect against claims filed after the dissolution. Typically, after several years, the statute of limitations kicks in and any further claims will be time-barred.

Transfer of Funds. Once creditors and dissolution expenses have been paid, any remaining assets and funds must be transferred to another nonprofit (or a governmental entity if the governing documents permit) pursuant to the corporation’s dissolution provision as discussed above. The transfer should be made pursuant to a grant agreement to document the transfer and the purpose of the grant. Assets may be transferred in-kind to avoid the time and expense of liquidating assets if the grantee nonprofit is willing to accept them.

Conclusion. Although many nonprofit corporations consider dissolution a dirty word and a dreaded process, if it becomes necessary and the steps outlined above are followed, the nonprofit can dissolve gracefully and transfer its remaining assets to another nonprofit with similar goals, turning the dissolution into a benefit that will help further its original mission.

Ellis Carter is a nonprofit lawyer licensed to practice in Washington and Arizona. Ellis advises tax-exempt clients on federal tax matters nationwide.

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