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WHAT IS THE CALIFORNIA FRANCHISE TAX?

Steven E. Springer June 19, 2015

An important consideration when starting or registering a business in California is the state franchise tax. It may influence whether or not you decide to register a business entity, and the type of entity to choose. In California, LLCs, corporations, and limited partnerships must pay the annual franchise tax of a minimum of $800.

WHO MUST PAY?

California’s franchise tax applies to limited liability companies (LLCs), S and C corporations, limited partnerships (LPs), and limited liability partnerships (LLPs). General partnerships, however, are not required to pay this tax.

A business entity must pay California’s franchise tax if it is:

  • Registered or incorporated in California;

  • Qualified or registered to do business in California; or

  • Doing business in California.

If, during one year, a business converts to a new business entity, such as an LLC or corporation, the business generally must pay that year’s franchise tax both as the former entity and the new entity.

HOW MUCH? 

The minimum amount of the franchise tax is $800 per year. The amount due will be whichever is larger, the $800 minimum, or the business’s net income multiplied by the appropriate tax rate. The minimum tax must be paid even if the business is inactive or is operating at a loss. 

EXEMPTIONS

  • The 15-day exemption applies to businesses:

  • That did not conduct any business in California during the tax year; and

  • Whose tax year was 15 days or less. 

So if, for example, a person unintentionally started a company and then quickly disbanded it, the company would not have to worry about paying the franchise tax.

The first-year corporation exemption exempts certain business entities from the $800 minimum tax for their first year of being incorporated or qualified to do business. They do have to pay franchise tax on their earnings, however. This exemption applies to corporations and to LLCs treated as corporations. Standard LLCs do have to pay the minimum franchise fee. 

INTERSTATE BUSINESSES

A state appeals court ruled recently that a provision governing interstate tax payers was unconstitutional under the Commerce Clause. The provision requires unitary enterprises (i.e. multiple commonly owned and controlled businesses, each contributing to the enterprise as a whole) with businesses both in and outside of California to calculate their taxes using a combined reporting method. Companies located wholly within California, however, could use the combined method or could calculate taxes for each entity separately. The court ruled that this provision unconstitutionally discriminates against out-of-state businesses.

DUE DATES

For its first franchise tax payment, a business has until the fifteenth day of the fourth month after filing. For future years, the business must pay by April 15th, annually. 

When starting a business, it is essential to understand the aspects of different business entities in order to pick an entity best suited to your needs. If you are considering forming a business entity, please contact a skilledMorgan Hill business law attorney at The Law Offices of Steven E. Springer or call 408-779-4700 for a free initial consultation in Morgan Hill, San Jose or Fremont.