Understanding Closed Corporations: Key Facts and Benefits

What do Ernst & Young, PricewaterhouseCoopers, Mars Inc., SC Johnson, Publix, Hearst Corporation, Chick-fil-A, and Hobby Lobby have in common? They are all large US-based closed corporations. A closed corporation, sometimes called a closely held corporation, is a type of business entity where the shareholders, directors, and officers are often the same people. In that way, the corporation’s leadership and shareholders remain a small group. 

A closed corporation offers the same legal advantages as a corporation, such as limited liability, but also has greater flexibility in administration than a publicly traded corporation. Read on to understand these corporations and whether this structure makes sense for your business. 

What Is a Closed Corporation?

A closed corporation is a type of corporation that is privately held by a limited number of shareholders, usually family members or a small group of investors. In the case of a closed corporation, all parties intend to remain a small, tight-knit group. Close corporations cannot have more than 30 shareholders.

Closed corporations cannot be mining or oil companies, stock exchanges, banks, insurance companies, public utilities, educational institutions, or corporations declared to be vested with public interest.

Closed Corporations vs Publicly Traded Corporations

The main difference between closed corporations and publicly traded companies is that closed corporations are not publicly traded. The general public cannot readily invest in them. Publicly traded companies are listed with the SEC and, therefore, receive more attention and must meet relevant reporting requirements, such as annual reports. 

While both closed corporations and publicly traded corporations offer liability protection for owners or shareholders, closed corporations have more flexibility in administration. Publicly traded companies have significantly higher reporting requirements and must respond to shareholder pressure.

Closed companies don’t have the same reporting burden as publicly traded companies and much less obligation of transparency. This can protect company secrets and prevent competitors from learning about a company’s plans. 

For example, unlike publicly traded companies, closed corporations do not have to answer to shareholder actions or hit quarterly profit targets that could change business plans. However, since closed corporations have fewer shareholders and are not publicly traded, liquidity can be an issue. 

Advantages of Closed Corporations

There are numerous advantages of closed corporations. First, they provide limited liability protection to shareholders. They also enjoy more flexibility in management and decision-making. Other pros of closed corporations include:

• Fewer formalities
• Limited liability
• More shareholder control
• More freedom
• Better protection of business plans

Disadvantages of Closed Corporations

While closed corporations offer major advantages, they may face challenges in raising capital as their stock is not publicly traded. Shareholders may also have limited exit options since the transferability of stock is restricted. If you are a shareholder of a closed corporation, it can be difficult to cash out unless other shareholders are willing to buy you out. 

How to Form a Closed Corporation?

The steps in forming a closed corporation vary from state to state. In fact, both the structure and operating laws can vary from state to state. However, in most states, the Articles of Incorporation for a corporation must contain a clause electing that the business be registered as a closed corporation.

In most states, the steps to form a closed corporation are:

1. Decide on a business name 
2. Decide on partners or shareholders
3. File to form a corporation with the Secretary of State where you reside or where the corporation will operate
4. Include a clause in the Articles of Incorporation about registering as a closed corporation
5. Meet any other state filing requirements, such as paying a filing fee
6. Once approved, apply for an EIN and any relevant business licenses
7. Open a business bank account and take any final steps to comply with local and state laws, depending on your business. 

Learn more about how to form corporate bylaws for your C-corporation and then include closed corporation statutes for your company. 

How to Dissolve a Closed Corporation?

The steps in dissolving a closed corporation are generally the same as dissolving other corporations or limited liability companies. This can include winding up business activities, settling all business debts, and legally filing the Articles of Dissolution with the Secretary of State where the corporation was formed and in any state where it operates.

To dissolve a corporation:

1. Review the articles of incorporation and operating agreement for steps necessary for dissolution.
2. Shareholders must vote to dissolve the corporation
3. Pay any outstanding taxes 
4. Pay all business debts 
5. File the Articles of Dissolution with the Secretary of State
6. Notify state and federal tax agencies (if not done in step 3)
7. Wind up remaining business activities
8. Notify creditors and freeze the company’s EIN
9. Distribute any remaining assets among shareholders

See also how to dissolve an LLC for more understanding of the business dissolution process. 

How to Change a Closed Corporation into a Different Type of Business Entity?

The steps in changing a closed corporation into a different type of business entity, such as an LLC, vary from state to state. One option is to dissolve the corporation and open a new LLC. Another option is to form an LLC and have the LLC merge with or buy out the corporation. The third option is to file a document with the state filing office to change from one entity form to another. In that case, you could change the corporation to an LLC. Check with your Secretary of State to understand how this option works in your state. 

Creating a Closed Corporation

A closed corporation offers flexibility to build your business and offer shares to your directors, officers, and even family. These corporations offer limited liability along with flexible administration. With easy formation, these corporations can be the first step to building your business. 

Along with a company, you need great help, including excellent bookkeeping, to maintain transparency and reporting for shareholders. If you need help, doola’s bookkeeping services offer the ultimate bookkeeping software made for founders. Get stress-free bookkeeping to spend more time focusing on your core business with doola books!

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