Franchise Tax: What It Is and Who Pays It
Franchise tax is a fee charged by some states for the privilege of doing business there. It's not a tax on income, and it can catch new business owners off guard.
What Is Franchise Tax?
Franchise tax is a state-level tax imposed on businesses for the privilege of operating or being organized in that state. Despite the name, it has nothing to do with franchises like McDonald's or Subway.
Key characteristics:
- Not an income tax: You pay it whether you make money or not
- Based on existence: You owe it simply for having an LLC in the state
- Separate from annual reports: It's a tax, not just a filing fee
- Can be significant: Some states have high minimum franchise taxes
California charges a minimum franchise tax to ALL LLCs doing business in the state, regardless of income, profit, or where you formed. There's no way to avoid this by forming in another state.
States with Franchise Tax
Not all states have franchise taxes. Here are the notable ones:
| State | Tax Type | Notes |
|---|---|---|
| California | High minimum | Plus fee based on income |
| Delaware | Flat fee | Annual, due June 1 |
| Texas | Revenue-based | Only applies to high-revenue businesses |
| Tennessee | Minimum + percentage | Based on net worth |
| Illinois | Flat fee | Paid with annual report |
States Without LLC Franchise Tax
Many states don't charge franchise tax on LLCs, including:
- Wyoming
- Nevada
- New Mexico
- Montana
- South Dakota
This is one reason Wyoming is popular for LLC formation, especially for online businesses and international founders.
How Franchise Tax Is Calculated
Calculation methods vary by state:
Flat Fee
Some states like Delaware charge a flat annual fee. Simple and predictable.
Minimum + Percentage
States like California charge a minimum amount plus additional fees based on income thresholds.
Revenue-Based
Texas calculates franchise tax based on revenue (called "margin" in Texas). The tax only kicks in above a certain revenue threshold, so most small businesses pay nothing.
Due Dates
Franchise tax due dates vary by state:
- California: 15th day of the 4th month after fiscal year ends (April 15 for calendar year)
- Delaware: June 1
- Texas: May 15
- Tennessee: 15th day of the 4th month after fiscal year ends
First-year LLCs often have prorated or deferred franchise tax obligations. California, for example, exempts first-year LLCs from the minimum but requires it starting the second year.
Avoiding Franchise Tax Surprises
To avoid unexpected franchise tax bills:
- Research before forming: Know the ongoing costs in your state
- Consider state choice carefully: Forming elsewhere doesn't avoid franchise tax where you do business
- Budget for it: Set aside money monthly for your annual franchise tax
- Mark deadlines: Late payments trigger penalties and interest
- Dissolve unused LLCs: If you're not using an LLC, formally dissolve it to stop franchise tax obligations
Simply stopping operations doesn't end your franchise tax obligation. You must formally dissolve your LLC with the state. States like California will continue charging until you file for dissolution.
Frequently Asked Questions
Frequently Asked Questions
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