$800 Minimum Franchise Tax: Everything You Need to Know
The $800 minimum franchise tax is the minimum franchise fee that a corporation will have to pay to operate in California, which is similar to the tax situation in many states. 3 min read
2. Franchise Tax Exemptions
$800 Minimum Franchise Tax Overview
The $800 minimum franchise tax is the minimum franchise fee that a corporation will have to pay to operate in California, which is similar to the tax situation in many states. What is not similar, however, is the structure and rate of this tax. For California companies, the franchise tax will be either a percentage of their income or $800, whatever is larger.
In California, the tax rate for corporations is:
- S corporations: 1.5%
- C corporations: 8.84%
- Professional corporations: 8.84% unless they elect S corp status
Whether or not a corporation is native to the state or not makes no difference insofar as the tax rates are concerned: domestic and foreign (out-of-state) businesses both pay the same tax rate. Likewise, whether or not a corporation is active, inactive, filing a short-period return (under 12 months), or operating at a loss has no effect on the tax rate. This means that even if your company does not operate and shows no profit, it must still pay the $800 minimum by virtue of existing. Thus, the only way to avoid the tax is to dissolve the company.
Additionally, another important detail to note is that if you change your business structure during the year–for instance, from an LLC to a C corporation–you would then be subject to the minimum franchise tax on both entities for that year.
This franchise tax, either single or double, must be paid in the first quarter of your business’s accounting period regardless of the business’s status. In most cases, this tax will be due by the 15th of April. Paying the minimum franchise tax may be done by either using Form FTB 100-ES or California’s Web Pay for Businesses, both of which are submitted to the Franchise Tax Board.
Franchise Tax Exemptions
Because of its unusually high franchise tax rate, California has gained a reputation as being a state unwelcoming to new businesses, even though state tax requirements are based on where business is conducted, not where a business is incorporated, so foreign businesses would be subject to the same tax. This is as it would be in many other states, as taxing foreign companies as domestic companies is common. Nonetheless, the reputation persists, even though there are some important exemptions to the tax:
- The First-Year Exemption. California will waive the minimum franchise tax for the first year a corporation exists. Instead, the franchise tax on net income will be applied, which may be less than the $800 minimum a company would normally have to pay. This exemption was passed specifically to combat the reputation that California was a state adverse to new business, or business in general.
- The 15-Day Rule. If a business incorporates within 15 days of the end of the tax year and does not conduct business in those 15 days, then it will not be subject to the minimum franchise tax. If this occurs, then the corporation will not be required to file a return, and thus no tax can be applied. The next tax year will be counted as the first tax year, and the first-year exemption will be in effect.
- Tax-Exempt Status. In certain special situations, companies may be granted tax-exempt status from the California Franchise Tax Board (FTB) or the California Constitution. This mostly applies to nonprofit organizations, such as charities, as well as certain veteran organizations.
Despite these exemptions, there are a variety of schemes out there to dodge the franchise tax, but they are mostly doomed to eventual failure. Aside from the above three exemptions, the only legitimate way to avoid paying the $800 franchise tax is to run a sole proprietorship, as they are not subject to the tax.
However, operating your business as a sole proprietorship comes with its own risks, the main one being that you will have no liability protection for your personal assets should you get sued, which would not be the case were your running an LCC or S corp. That said, if you are running a very small business with low risk of legal exposure, a sole proprietorship may still be the best choice for you.
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