The Perils of a Premature Corporate Dissolution

By: Gabriel Di Genova

There are two primary advantages to using a corporate vehicle to operate a business: i) to benefit from certain tax planning flexibility afforded to corporate entities, and ii) to limit the liability of the business owners. A recent Court of Quebec judgment concerning a commercial rent dispute highlights all too well the perils of a premature corporate dissolution as it impacts the latter.

In Zixin2001 Inc. c. Dépanneur Gilford Li Inc. et al., 2020 QCCQ 2877, the Court of Quebec held the business owner personally and solidarily liable for debts emanating from the landlord / tenant relationship.

The primary defendant was a legal entity constituted under the Quebec Business Corporations Act with a single shareholder, director and officer. It previously operated a grocery store / dépanneur in a commercial space within plaintiff’s building. At origin, the dispute concerned the calculation of municipal taxes by the commercial tenant within the category of operating expenses to be assumed by the tenant pursuant to the commercial lease.

The parties disagreed as to the proper calculation method vis-à-vis the total surface area occupied by the commercial tenant and the base tax rate differential between the commercial and residential spaces within landlord’s building. The discrepancy between the methods of calculation was substantial—almost 50%—and the dispute led to defendant withholding partial payment for amounts claimed as municipal taxes.

The trial on the merits occurred in December 2019, and defendant eventually vacated the leased premises in February 2020. Following the February 2020 abandonment of the commercial space, defendant’s principal proceeded to dissolve the corporation. While no explanation is provided in the judgment for the reasons defendant proceeded with a corporate dissolution, one can easily assume it was done as an ill-founded strategy to avoid the consequences of any judgment that would eventually be rendered following the December 2019 trial.

Once the corporate dissolution came to the attention of the landlord, plaintiff petitioned the Court for permission to amend its lawsuit, which the Court granted in virtue of art. 206 C.C.P. which allows for an amendment “At any time before judgment […].” Via the post-trial amendment, plaintiff succeeded in impleading defendant’s principal personally as a co-defendant.

After considering the voluntary corporate dissolution by the principal, and the application of art. 313 of the Quebec Business Corporations Act, the Court concluded the primary defendant’s principal would be held solidarily liable for the debt:

[41] Le 3 février 2020, date où le certificat de dissolution a été délivré par le registraire, Mme Li Hui Hu devenait dès lors personnellement responsable des dettes et obligations de Dépanneur, particulièrement en regard de celles qui, suivant le bail commercial, obligeaient cette dernière envers Zixin.

The point to retain is that premature dissolution can have drastic consequences to business owners. As the commercial lease did not have personal warranty provisions, in the present case, the business owner should perhaps have considered the benefit of insolvency proceedings. This could have shielded the business owner from personal liability, while nonetheless managing the ongoing debts of the corporate entity.

In this particular case, the secondary defendant now faces personal liability for a debt of approximately $18,000, plus interest and costs. This amount far surpasses general market rates for a trustee to oversee a relatively simple corporate bankruptcy.

An alternative option to insolvency proceedings would have been for the defendants to consider reviving the dissolved entity (pursuant to art. 365 of the Quebec Business Corporations Act) prior to the Court authorising the amendment to include the principal as a personal defendant. The decision is silent on why these steps were not taken, or whether they were even considered.

Before making a decision about the proper treatment or disposition of a corporate entity that is no longer intended to be used for commercial operations, it is advisable to consult a corporate lawyer.