If your company is staring down a lawsuit, the idea of shutting the doors can feel risky. You might wonder if you are even allowed to wind down while a case is still open. The short answer in many places is yes, you often can. The longer answer is that you need to do it with care, with your lawyer’s help, and with an eye on creditors and claimants. This post explains common patterns we see.
What “Pending Lawsuit” Really Means for a Shutdown
A pending lawsuit means someone has a live legal claim against the company. That “someone” could be a customer, a supplier, a former employee, an investor, or a regulator. The case might be in court or arbitration. It might be at an early stage or close to trial. Even with a live case, many jurisdictions let you start the wind-down. But the lawsuit changes how you handle money, records, and timing. It can also change what the state will let you file and when, and it may pull a court into parts of your wind-down.
In Many States, Dissolution Does Not End Lawsuits
A common myth is that filing dissolution papers makes lawsuits go away. That is not how it works in many U.S. states. In Delaware, a dissolved corporation continues to exist for winding up and for lawsuits for three years after dissolution (see § 278). A court can extend that life by appointing a receiver if needed. So, suits can continue, and new suits tied to past conduct can still be filed during that period.
California takes a different approach. A dissolved corporation continues to exist for the purpose of winding up, and it can both sue and be sued. There is no special “dissolution” time bar on claims beyond the normal statutes of limitation. In some cases, plaintiffs may also enforce claims against shareholders, but only to the extent those shareholders received liquidation distributions.
New York follows a similar approach. A dissolved corporation may sue or be sued in its corporate name while winding up, and courts can step in to oversee parts of the process if creditors request it. The principle is the same: dissolution is not a shield against pending or related claims.
What This Means for Founders Making Shutdown Calls
You may be able to vote to dissolve, file with the state, and start closing accounts, but you will also need a plan for handling claims. In Delaware, the statute requires dissolved corporations to pay known claims and to make “reasonable provision” for claims that are pending or that may arise. There is also an optional court-supervised process that allows companies to give formal notice to claimants and obtain court approval of reserves. Many companies choose this route when the stakes are high or claims are complex.
Courts have permitted dissolved companies to return some cash while litigation is still ongoing, so long as they hold back enough to cover the risk. In the Altaba dissolution (Yahoo’s successor entity), the Delaware Court of Chancery approved an interim distribution while the company reserved funds for ongoing data-breach suits in Canada. This shows how reserves and court oversight can keep a wind-down moving without short-changing claimants.
Importantly, “enough” does not always mean reserving for the worst-case number. In past Delaware cases, courts have approved reserves below the full claim amount where the approach was shown to be reasonable and backed by counsel. Because this is highly fact-specific, boards typically work closely with counsel and experts to determine the appropriate holdbacks.
Why Distributions Get Special Scrutiny
Paying out cash or assets to owners while creditors wait is a red flag, and states have rules to prevent improper distributions. In Delaware, directors can face personal liability if they approve unlawful dividends or stock redemptions, especially when a company is insolvent or dissolving. That liability can extend to the company itself and, if insolvency follows, to its creditors.
Outside corporate statutes, transfers made to evade creditors can be clawed back under “fraudulent transfer” or “voidable transaction” laws. Most states follow some version of the Uniform Voidable Transactions Act. These laws focus on intent and on whether the company received fair value while it was insolvent. Look-back periods vary by state, and bankruptcy can add an additional federal layer. This is why documenting the reasons and process behind any distributions is critical.
California adds a clear cap for shareholders who received liquidation distributions. If a plaintiff wins and the dissolved company lacks assets, a shareholder can be liable up to the amount that shareholder received in the wind-down. This is not a scare tactic; it is the rule on the books.
What May Change in Your Shutdown Process When a Suit Is Pending
Your filing calendar may look normal on the surface. You may hold a board meeting, adopt a plan of dissolution, and file the certificate. But after that, the work differs.
You will likely keep certain accounts open longer. You need a place to hold reserves and pay bills. You will also keep a registered address that can receive legal notices. States expect dissolved companies to be reachable while they wind up. Courts need that too.
You will preserve records. If litigation is pending or reasonably likely, companies must suspend routine deletion and put a “litigation hold” in place. That means telling custodians to keep emails, files, chats, backups, and logs that relate to the dispute. It also means pausing auto-purge settings that could wipe relevant data. Courts can sanction parties who fail to preserve evidence. Simple steps early can prevent costly fights later.
You will revisit insurance. Many business policies are “claims-made.” If the policy expires and you have no “tail,” a later-filed claim may fall outside coverage. Companies winding down often buy an extended reporting period (ERP), also called “tail coverage,” for D&O, E&O, EPL, and cyber policies. Tails commonly run up to six years in the U.S., lining up with many statutes of limitation. A tail extends the time to report claims under the expiring policy; it does not add new limits. It is recommended to plan and budget for it.
You may involve a court by choice. Delaware’s optional court-supervised process lets a dissolving company give formal notice to creditors and get court approval of reserves. That can reduce later fights and give directors comfort. It is not required in every case, but it is a tool worth discussing with counsel when claims are large, unsettled, or spread across jurisdictions.
You may see creditor challenges. Creditors can object if they think reserves are too small or distributions are improper. Some states allow creditors to ask courts to supervise parts of the wind-down. That is normal. It is also why clean notices, a documented reserve method, and good communication matter.
Real-World Examples of Shutdowns Amid Legal Clouds
Quibi
Quibi launched in April 2020 and shut down in October 2020. It shut down while fighting a high-profile IP and trade-secret case brought by Eko. After Quibi wound down, a successor entity, QBI Holdings LLC, continued handling assets tied to the case. In September 2021, Quibi and Eko settled. Reports say the deal included giving Eko certain tech and IP, with no announced cash damages. The key point is this: the company moved forward with shutdown tasks while the case continued, and the claim found a path to resolution after the closure.
Jawbone
Jawbone, once valued in the billions, shut down and liquidated in 2017 after years of litigation with Fitbit. The company hired a specialist firm to run the wind-down and to handle the ongoing legal matters. Shutdown, however, did not erase the disputes. Civil and even criminal matters related to the broader fight carried on after the company closed. The lesson is familiar: closing a company changes the logistics of a case, not the rights in play.
Common Founder Questions When a Lawsuit Overlaps a Wind-Down
Q: Can we file dissolution papers now?
A: Often yes, if the board approves and the statute allows it. Most states let you file and then keep existing for winding up. But you still need to address claims. Delaware law generally expects dissolved corporations to pay known claims, and you must make reasonable provisions for pending and future claims before distributing leftovers to owners. That “reasonable” standard drives much of the plan.
Q: Can we distribute cash to shareholders?
A: Not until you have paid debts or set aside enough for them. Improper distributions can be clawed back. Directors risk personal liability for unlawful dividends or redemptions. In California, shareholders can face liability up to the amount they received in the wind-down. In practice, companies work with counsel to size reserves, confirm creditor priorities, and stage distributions.
Q: Will a court get involved?
A: It might, but not always. Courts are involved if you choose the court-supervised path, if a creditor challenges your plan, or if a receiver is needed to extend the company’s life to deal with assets like insurance. Court involvement can slow things down, but it can also add certainty.
Q: Are there non-bankruptcy options if liabilities are heavy?
A: Yes. Some companies use an Assignment for the Benefit of Creditors (ABC). An ABC is a state-law process where you assign assets to a neutral fiduciary who sells them and pays creditors by priority. ABCs can be faster and less costly than bankruptcy, though rules vary by state. They can be useful when litigation risks make a standard dissolution hard to manage.
Practical Steps That Tend To Help
Line up litigation reserves with your lawyer and, if needed, outside experts. Put the logic on paper. Tie the numbers to facts and to the status of each case. Courts and creditors look for a reasonable, good-faith approach. Delaware courts have approved interim returns to shareholders when reserves met that bar.
Turn on a litigation hold early. Tell key people to preserve emails, docs, chats, source code, logs, and backups related to the dispute. Pause auto-deletion. Track who received the hold. Update it as the case evolves. This step costs little and avoids big headaches.
Review insurance before you cancel it. Price and purchase tail coverage where it matters. Check limits and eroded amounts. Confirm who is covered and for how long. Note that a tail extends the time to report claims under the expiring policy; it does not create new limits. Directors and officers care about this, and so should you
Keep communications tight and factual. Tell stakeholders what you can, when you can, without guessing at outcomes. Avoid promises about timing or dollar amounts unless counsel signs off. Good updates reduce fear and lower the odds of knee-jerk challenges.
Mind the order of payments. Pay employees and priority creditors as required. Pay tax filings and returns. Respect contractual lien rights. Do not jump the line with insider payments. Document every step.
Stay reachable. Keep your registered address, agent, or successor entity in place to receive legal papers. Courts and claimants need a path to serve you. Losing that path can cause avoidable motions and costs.
How SimpleClosure Can Help
A pending lawsuit adds friction, but it does not always have to freeze progress. Our team has guided many founders through dissolutions that involved open claims or active regulatory matters. We coordinate with your counsel on reserves, claims notices, and the timing of filings. We organize the paper trail, from board approvals and plan documents to creditor notices and final reports. We also help you map cash, vendor closeouts, and account closures so the right things stay open until they can close cleanly.
When your lawyers recommend the court-supervised path, we help with the logistics that sit around the legal work. That includes tracking claimant lists, building data rooms for the record, and making sure notices go out on time. When an ABC is a better fit, we can help you line up the assignee and prepare the operational handoff. The goal is a process with structure and fewer surprises, even when case timing is uncertain.
Closing Thoughts
A pending lawsuit does not automatically stop a shutdown. But it changes the playbook - you will make and defend reserve decisions, you will preserve records, you will handle distributions with care, and you may involve a court by choice or because a creditor asks. Real companies - Quibi, Jawbone, and Altaba - each moved forward while legal issues were still live. They show that shutdowns and lawsuits can coexist when teams plan and communicate.
Your facts and your state’s laws matter, so it’s recommended to bring in counsel early. If you want help running the operational side – records, filings, notices, accounts, and coordination with your legal team – SimpleClosure is here to help you close cleanly when the time is right.
This article is for general informational purposes only and does not constitute legal advice. Companies should consult their attorney for guidance on their specific situation.