What is a franchise tax?
A franchise tax, also known as a privilege tax, is a payment businesses must make to conduct their business in a certain state. The payment amounts vary according to each state’s specific requirements. You must pay your franchise tax in addition to income tax or any other small business taxes you currently pay. Franchise tax isn’t limited to franchises, as any business operating in certain states must pay franchise tax.
Which states require franchise taxes?
Some states have recently eliminated their franchise tax requirement since it makes the states’ tax rate higher, causing some people to avoid starting businesses in that state. The states that require a franchise tax include:
- Alabama
- Arkansas
- California
- Delaware
- Georgia
- Illinois
- Louisiana
- Mississippi
- New York
- North Carolina
- Oklahoma
- Tennessee
- Texas
- Washington, D.C.
How are franchise taxes calculated in certain states?
The amount you must pay for franchise taxes varies across all states. Most charge a flat fee for all businesses, while others use a specific calculation to determine the payment amount. Consider hiring a tax preparer to better understand what taxes you must pay and how to correctly calculate them. Here are a few examples of how some states calculate business franchise taxes:
California
Limited Liability Companies (LLCs), C corporations, limited partnerships, S corporations and limited liability partnerships that are registered to operate in California must pay franchise taxes, according to the Franchise Tax Board. Tax-exempt businesses, like 501(c)(3) organizations don’t have to pay franchise taxes. Franchise payments are waived for businesses that incorporate or qualify with the California Secretary of State in their first year of operation.
According to the Franchise Tax Board, the starting minimum franchise amount is $800 per year. If your corporation’s annual net income multiplied by the applicable corporate tax rate is higher than $800, you must pay that amount to the California Franchise Tax Board instead of the initial $800.
Delaware
This state charges a flat-rate annual franchise tax to:
- Foreign corporations
- LLCs
- General partnerships
- Nonprofits
- Limited liability partnerships
- Limited partnerships
Other corporations that formed in Delaware must follow two methods to determine how much to pay in franchise taxes, according to the Delaware Division of Corporations. The first is the authorized share method:
- Corporations with 5,000 or fewer shares must pay a minimum franchise tax fee of $175.
- Corporations that have between 5,001 to 10,000 shares must pay a tax fee of $250.
- Corporations with over 10,000 shares must add $75 to their tax fee for every 10,000 shares the company has.
The second calculation option is the assumed par value capital method. You’ll calculate this based on your company’s authorized shares, issued shares and total gross assets. Follow these steps to properly calculate your franchise tax fee:
- Take your total gross assets and divide them by your total issued shares to receive your assumed par value.
- Multiply the assumed par value by the total authorized shares to get your assumed par value capital.
- The franchise tax is $350 for every $1,000,000 of the assumed per value capital. If your assumed value per capital is over one million, round up to the next million.
Louisiana
Any corporation that files as a corporation on their federal tax income and must pay franchise taxes. As stated by the Louisiana Department of Revenue, businesses must also pay franchise taxes if they’re:
- Organized in Louisiana
- Continuing or exercising the corporate charter in the state
- Using or owning any corporate capital, plant or other state properties in the state
- Meeting state qualifications to do business in Louisiana
The initial corporation franchise tax equals $110. Businesses that employ capital must pay $1.50 for every $1,000 or fraction thereof of capital employed in Louisiana. If your capital goes above $300,000, you must pay $3 for every $1,000 or major fraction.
Mississippi
Most corporations in Mississippi must pay a franchise tax. You’re required to pay $2.50 for every $1,000 of the capital you use, employ or invest in the state. Your tax base includes capital stock issued, along with surplus, undivided profits, true reserves and outstanding profits. The tax base can’t be lower than the corporation’s assessed value of tangible and real personal property in the state of Mississippi.
Frequently asked questions about franchise tax
What is a franchise tax fee?
A franchise tax fee is the tax certain states charge businesses as payment for the privilege to do business in that specific state. Only certain states charge franchise fax fees to businesses.
States that no longer require a franchise tax fee include:
- Kansas
- Missouri
- Pennsylvania
- West Virginia
Is the Franchise Tax Board the same as the IRS?
No, the Franchise Tax Board is a tax agency that enforces and collects state income and franchise taxes. The Internal Revenue Service is a federal bureau of the U.S. Department of Treasury that enforces federal income tax laws and processes tax returns to businesses and individuals.
Do I have to pay a franchise tax?
Typically, if your business is required to register with your state, a franchise tax is most likely required. Businesses required to pay franchise taxes include:
- Corporations
- Limited liability corporations
- Partnerships
Businesses that aren’t required to pay franchise tax include:
- Sole proprietorships that aren’t single-member LLCs
- Nonprofit self-insurance trusts
- Trusts exempt under the IRS code section 501(c)(9)
- Trusts qualified under the IRS code section 401(a)
- Exempt entities under Tax Code Chapter 171, subchapter B
- Nonprofit self-insurance trusts created under the Insurance Code Chapter 2212
- Political committees that are unincorporated
- Certain passive entities that are unincorporated
- Certain qualified real estate investment trusts and real estate mortgage investment conduits
- Certain escrows, estates of natural persons and grantor trusts
