What Is a Dissolution Clause?

By Heather Frances J.D.

When you form a new organization, business or partnership, you create a new entity that has a legal life of its own. If you later need to shut down that entity, a dissolution clause can help by providing direction for the shutdown. Such dissolution clauses are sometimes required, but they can be useful even when they are optional.

Purpose of a Dissolution Clause

Dissolution clauses set out the details of how the organization plans to dissolve or terminate should that become necessary. Without a dissolution clause, termination of an organization can get complicated. For example, an organization that owns assets may have trouble determining what to do with those assets if the organization does not have a dissolution clause. A dissolution clause can clearly indicate what is supposed to happen so that the organization's officers do not have to decide these issues in the midst of the termination itself.

Dissolution Clauses Are Sometimes Required

Organizations that claim certain tax exemptions, like nonprofit 501(c)(3) organizations, are typically required to have a dissolution clause unless otherwise specified by law. For example, IRS regulations allow organizations to meet dissolution clause requirements if state laws or court cases describe how the organization's assets would be distributed in a way that meets IRS approval. Whether your organization is required to have a dissolution clause depends on the type of organization you create and your state's laws.

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Contents of a Dissolution Clause

When dissolution clauses are required by law, they generally must specify that the organization's assets will be distributed for tax-exempt purposes. Thus, a charity's dissolution clause might state that the charity's assets will be distributed for other charitable purposes if the charity dissolves. Clauses can also provide details about payment of debts and liabilities of the organization as well as what type of paperwork the organization's members will receive to document the dissolution.

Dissolution May Require Additional Actions

Depending on the type of entity you create and the requirements of your state, you may have to do more than comply with your organization's dissolution clause. For example, your state may require you to file a statement of dissolution indicating that your entity is dissolving and winding up its business. Generally, this does not mean that your entity is already dissolved, but indicates to the state that you are in the process of dissolving.

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