Don't Get Tripped Up by Franchise Taxes
As a new business owner, you've undoubtedly felt overwhelmed at times by the vast amount of new information you have to assimilate, especially where legal and financial regulations and requirements are concerned. So when you heard that you may have to pay something called a franchise tax, you may have headed for the antacids in your medicine cabinet before seeking out the details of this additional accounting burden. Here are some basic facts to help you understand franchise taxes and how they may impact your business.
What Is a Franchise Tax -- and Do You Have to Pay It?
Some business owners make the quite understandable mistake of thinking that franchise taxes are special taxes imposed on business franchises. Actually, they are imposed on any business that registers with the state and/or incorporates as a business entity; you might think of them as a "right to do business" tax; in fact, the State of Alabama refers to it as a Business Privilege Tax. So unless you're a sole proprietor or a general partnership, there's a good chance your company falls into this group. Several states impose franchise taxes, including:
- New York
- North Carolina
Missouri and West Virginia used to impose franchise taxes as well, but both states have since repealed the tax. So if you do business in one of these states and are a corporate entity, you have to pay franchise tax.
How Franchise Taxes Are Calculated
Franchise taxes aren't nearly as straightforward as income taxes, although a business's income does enter how these taxes are figured. Other factors that may be used in franchise tax calculations may include net worth, tangible physical property (or investments in same), stock value, gross receipts and paid-in capital. Different states employ these factors in different ways and at different percentage rates, so even if you're familiar with the franchise tax rules in one state, be ready to play by a different set of rules in another state. Here are some examples of how particular states calculate franchise taxes:
- Alabama -- A 0.175% graduated tax on all income exceeding $2.5 million, with a minimum tax of $100 and maximum tax of $15,000
- Texas -- The lesser of (1) 70 percent total revenue, (2) total revenue minus $1 million, (3) total revenue minus all wage/benefit compensation and (4) total revenue minus sales of goods
- New York -- The greater of the flat-rate income tax (7.1 percent) or 0.15 percent net worth
- Oklahoma -- On net worth over $200,000, $1.25 for every additional $1,000
- Illinois -- 0.1 percent paid-in capital
As you can see, the methods of calculating franchise tax vary greatly in complexity from one state to another. That's one reason (among many) that you need to have an experienced CPA or outsourced CFO who possesses a deep, thorough knowledge of your state's tax laws.
When are your franchise taxes due? While they are generally imposed on a once-a-year basis, the exact date, like the methods of calculating the taxes, can vary from state to state. Illinois businesses, for instance, pay on the anniversary of the business formation, while Arkansas payments are always due on May 1, and Texas filings must be in by May 15. Alabama's annual business privilege tax is due, along with an annual business report and a BPT-IN form, within 2.5 months of the date you registered your business with the state. (These dates may change slightly on a year in which they fall on a holiday or weekend day.)
While franchise taxes are best left to skilled accounting professionals, at least you now have some idea of what they are and what you need to do about them. Talk to your financial professional about how you can keep abreast of this important part of doing business in your state!
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All the best,