First, let's be clear that a sub-chapter S corporation IS NOT a partnership. It is taxed in a similar manner, but from a legal perspective, it is still a corporation. Presumably you do not have a buy-sell agreement dealing with this situation, so the first step is to determine what each of you wants, and try to reach some agreement as to a course of action. Does one of you wish to continue? Or do you both wish simply to discontinue the business activity and divide the assets and the liabilities? Or perhaps you want to try to sell the business to an outside party?
If you can resolve those issues, the rest is easy: if one of you wishes to continue, that shareholder can buy out the other. If you wish to call a halt to the whole thing, you probably will dissolve the corporation, pay the debts and divide the assets. If the corporation has a negative net worth (and if the shareholders have not personally guaranteed the debts), you may wish to consider a bankruptcy. There are a lot of options, depending on the facts and circumstances.
Hire a lawyer who can fully advise you as to the ramifications of each course, and who can prepare a binding agreement that will ensure your intentions will be carried out with no unintended consequences.
