When an organisation is inactive for about 2 years or cannot commence the business function within a year of its incorporation, the easiest method is to make an application for striking off the name of the company by filing an application in Form STK-2 U/s 248 of the Companies Act.
If for any reason, the company finds that it is unable to operate any further, they have to go through a due process set up by the ROC for private limited company closure. If properly done, there will be no hassles.
Did You Know? There are strict and clear laws for private limited company closure just as there are for the formation of one.
Why Close A Business?
The need for private limited company closure can arise for various reasons.
- The founders of the company may decide to discontinue the business.
- The company is unable to see growth due to the changing market environment. (Pagers, films for photography, fountain pens, keypad based phones are some examples).
- The company foresees challenges due to regulatory changes.
- The company is already running into heavy losses and is cash-strapped.
- There could be several other reasons for a company to close its business.
There is always a question in an entrepreneur’s mind on why the private limited company closure option is necessary.
Here are three reasons why formal closure as per law is advisable.
- Proper private limited company closure frees the entrepreneur from maintaining regulatory compliance. This saves the entrepreneur money, time, other resources, dependence on experts and the exposure to penalties for noncompliance.
- If private limited company closure is done through the proper process, the closure is recorded and becomes official. It liberates the Directors of any further obligations. The Directors are now free to start a new company, LLP or any other kind of business without any hindrance.
- Private limited company closure done properly helps free the company and its Directors of any uncertainty in liabilities.
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Example Of Private Limited Company Closure
Mohan (not real name) worked for ten years in a textile factory as a Factory Manager. Being a qualified Textile Technologist, he could quickly absorb all aspects of textile design and production. Bitten by the entrepreneurial bug, he decided to quit and start his factory. Encouraged by his friends, he formed a private limited company. He took the help of a neighbourhood Chartered Accountant and got started. Within three years, Mohan discovered, to his dismay, that running someone else’s factory was vastly different from running his own business.
Swamped by challenges and uncertainties, he realized that he had reached the end of the tunnel. All his savings in the company had vanished, and he also had debt on account of borrowings from friends. A bank loan was hanging with failed repayments. Mohan realized that he had to get out of this business immediately. His well-wishers asked him to close the company. But how does a private limited company closure take place? What Mohan learnt on this is what this article covers.
Laws Governing Closure
The Companies Act 2013 governs all matters about all types of limited companies in India. Originally enacted in 1951, the Act was thoroughly revamped and reset in 1913.
Options for Closure
The company should fulfil all the compliance before proceeding with the closure. The application is accompanied by various documents and requires assistance from a professional.
The entrepreneur can opt to sell the business by transfer of shares to a new buyer. In such a case, the closure of the company is not necessary. It only results in the transfer of ownership. The company as an entity continues to exist.
Alternatively, the entrepreneur can opt only to sell the assets to improve his liquidity and keep the skeletal structure of the company intact. After that, he can opt for any available routes to wind up the company.
There are circumstances when the Government has to intervene and force a company to wind up. If the ROC discovers that the company has engaged in an unlawful or fraudulent activity, it can order it to be wound up. The involvement of the company could be direct or indirect. In such cases, The Company Law Tribunal, the apex adjudicating body of the Company Law Board, will order the company's closure.
Compulsory Winding can also be initiated by any aggrieved party, proving that the company has failed in its obligations and is unlikely to honour them in the normal course of its running. The aggrieved parties could be trade creditors, anyone who has given loans (including banks), Government Departments and others. The matters generally go to courts and are affected when a Court Order is issued.
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The company itself initiates voluntary Winding. The Directors or shareholders propose this for a variety of possible reasons.
One could be that the company’s financial position is very bad and is thus unviable to continue. If steps on company closure are not taken, it will lead to further difficulties and possibly bankruptcy. Through formal Winding up, the stakeholders may also be able to protect themselves from litigation and claims of their assets.
There is another, though less common, the reason for a private limited company closure. If the shareholders and directors feel that the company has achieved all its objectives and there is nothing more to do, they can seek voluntary Winding up. It is also possible, especially in family-owned businesses, that the founder is retiring and none of his family members is interested in this business.
Another reason often encountered is its uncertain future. If the competition is severe and the company cannot stay afloat, it may opt for the private limited company closure option. There are also cases where the company’s products and services have become obsolete. Examples are pagers, one-time usage plastics, restrictions on the usage of diesel vehicles in cities, banning of imports of certain raw materials or components and so on.
Voluntary Winding up is now operated in the Insolvency and Bankruptcy Code as it is a more efficient way of handling the matter.
A company is defined as a Defunct company if it has not commenced its business operations even after one year of its establishment. A company can also be assigned a Defunct if there has been no activity during the preceding two years. These are governed by Section 248 of the Companies Act 2013.
The Registrar Of Companies often notices the state of being defunct, which initiates steps to declare the defunct company and its closure.
Defunct companies normally do not have any assets or liabilities and are thus easier to wind up. The Government has a FAST TRACK EXIT SCHEME to smoothen this operation.
The Government also offers the option of providing a DORMANT COMPANY status to such companies who may wish to have the option to revive their business shortly.
Procedure for Closure
The MCA has set a clear procedure for private limited company closure. The following documents are necessary to process the closure:
- A Resolution of the Board Meeting that discusses and approves the decision
- Notice of an Extraordinary General Meeting (EGM)
- A Special Resolution passed in the Extraordinary General Meeting (EGM)
- Notice to Registrar of Companies requesting the appointment of an Official Liquidator
- Notification in Official Gazette
- A clear and specific advertisement in the local newspaper where the company is registered
- An accurate and factual filing of the company’s Statement of Assets and Liabilities. The data should not be older than thirty days.
- Earlier, filing Form MGT 14 was mandatory. However, in 2014, the Ministry issued an amendment to the Rules by which private limited companies are no longer required to submit Form MGT 14.
In the case of Voluntary Winding Up, the company has to make a Declaration of Solvency and gain Trade Creditors' acceptance. Only then can a liquidator be appointed.
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Statistics of Closure In Prior Years
During 2020-21, nearly 13,000 companies were struck off the rolls under this category. In the preceding three years (2018-2020), 2.38 lakh companies were struck off. Among the defunct companies were also startups which could not secure funding or failed in the original idea with which the startup was conceived.
Among MNCs, the closure of five large automotive companies led to severe losses. Apart from a write-off by dealers to the tune of ₹2,500 crores, over 64,000 jobs were lost.
Starting a business and setting it up as a private limited company is straightforward. However, when a private limited company is set up, the Founder and Directors take responsibility for several things upon their shoulders. The first one, of course, is responsibly running the business. Beyond that, and more importantly, they must comply with the land's laws. They cannot be complacent about compliances and periodical reporting to the Government as stipulated by the ROC. (Registrar of Companies).
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