What is Franchise Tax?

Despite the name, California's "Franchise Tax" isn't a tax that applies to franchises. It's essentially an annual business tax imposed by the state. If you own a business registered in California, understanding this tax is crucial, even if your business hasn't started making money yet. 

What Exactly Is the California Franchise Tax?

All states charge an annual fee to businesses that are registered and operating within their state lines.  No surprise that California is one of the highest in annual fees! 

Every year, if you own an entity in California, you must pay their annual franchise tax.  It's not an income tax but rather a "fee to exist." This means that regardless of your business activity or income level, if your business is registered in California, you pay this tax annually.

Franchise Tax for Limited Liability Companies (LLCs)

For Limited Liability Companies (LLCs) in California, the minimum annual Franchise Tax is $800. But wait...if you are successful you pay more. 

If your LLC has gross sales exceeding $250,000, you can expect additional fees based on your GROSS SALES or total income.  See the surplus fee schedule below that is added to your $800 annual tax when you surpass the following gross revenue thresholds.  

Note that it doesn't matter if you make $1 in net income, if your gross sales goes above the amounts below, you pay more.

• $250,000 - $499,999: add on $900
• $500,000 - $999,999: add on $2,500
• $1,000,000 - $4,999,999: add on $6,000
• $5,000,000 or more: add on $11,790

Did you notice this say add on? They are on top of the $800 minimum fee. See California's Franchise Tax Board website for more details.

Franchise Tax for Corporations

Both C Corporations and S Corporations also start with a minimum annual Franchise Tax, but their rate escalates based on a different formula than that of LLCs.  It starts with $800, but can go above $800 if NET INCOME exceeds $53,333.  At that point, your annual fee is 1.5% of net income.

Unlike LLC fees, this amount isn't in addition to the minimum $800 fee but instead of the $800.  This is measured annually when you file your tax return.  The total fee is the greater of $800 or 1.5% of net income.

For more details on this fee, see the California Franchise Tax Board website.

This tax is typically paid in quarterly estimated payments. If not paid by the due date, the full amount becomes due with your tax return.

Will the state of California send me a bill or an invoice every year?

California will not send you an invoice nor will they remind you that this is due.  However, if you do not pay by the due date, you will eventually get a bill with late fees and interest. It is on you to pay by the required dates.

Typically, your tax preparer will provide you with a voucher.

Key Dates for Franchise Tax Payments

The $800 minimum is due by April 15th if you are on a calendar year or the 15th of the 4th month of the year if you report on a fiscal year. 

For new entities, you also must pay this fee mid-year in the year your entity is formed. It is due on the 15th day of the 4th month after your entity is formed.

It's important to note that this tax is due annually regardless of business activity. If you have an LLC that has zero business activity, you still must pay this annual fee.

Exemptions and Special Considerations

• First-Year Waivers: Newly incorporated or qualified corporations are not required to pay the $800 minimum in their first year. However, this waiver does not apply to the 1.5% net income assessment.
• LLC Start-ups: LLCs started between 2021 and 2023 enjoyed a first-year tax waiver, though this no longer applies. New LLCs must now pay their $800 within the first four months and then annually every April 15th.

The 15-Day Rule

If you register your new business entity within the last 15 days of the year and do not conduct any business in California during that year, you are exempt from the Franchise Tax for that year.

If you are looking to start a business towards the end of the tax year, you may want to revisit the timing of your filing and wait until you are past December 16th to avoid a $800 fee.

Does an extension allow my payment to come after April 15th?

No, you must pay your estimated tax on the due date to avoid interest and penalties. An extension is an extension to file and not an extension to pay.

Quarterly Estimated Taxes

If you owe more than the minimum $800, you'll receive a quarterly estimate schedule to help spread the payment of your estimated taxes across the year.  

 Just like your personal quarterly estimated payments, this schedule is provided by your tax preparer when you file your ta return.

Franchise Tax vs. Income Tax

It's important to distinguish that the Franchise Tax is not an income tax. It is a fee for the privilege of doing business in California. Income taxes, on the other hand, are reported and paid separately on the owner’s personal tax return or the corporate tax returns.

Summary

Understanding and planning for your Franchise Tax obligations is vital for any business owner in California. By keeping these key points in mind, you can ensure that your business complies with state requirements and avoids any unnecessary penalties.