What is Franchise Tax?

The franchise tax is not an income tax, rather, it is a tax imposed on corporations based on the capital or net worth of assets they have in a state. Some states in the United States impose the franchise tax on corporations that operate in the domain of the state. Whether the business runs as a franchise or non-franchise, the franchise tax is paid to the state authority for doing business in a particular state. Franchise tax can also be described as a type of tax that gives a corporation or organization the right to do business in a particular state.

How Does a Franchise Tax Work?

A franchise tax is a government levy charged by some states in the United States. A franchise should not be confused with a tax paid of franchises. It is a type of tax paid by a corporation operating in a particular state, regardless of whether it has branches or is chartered in another state. The states that charge franchise tax in the United States are the following; Georgia, Alabama, Delaware, Arkansas, Illinois, Pennsylvania, Louisiana, West Virginia, Mississippi, New York, Missouri, North Carolina, Tennessee, Texas, and Oklahoma.

Calculating the Franchise Tax

There are certain tax rules that guide how a franchise tax is calculated in different states. Not all states have the same tax rules, this is why the same company can pay different taxes on the same holding of assets or capital based on the state. In most states, a franchise tax is calculated depending on the capital holding of a business or the net worth of its assets. In other states, franchise tax using the company's paid-in capital or charge a flat fee rate for all companies operating in the state. For example, in California, $800 is the minimum franchise tax, while in the state of Texas, different tax rules are applicable. It is important to know that a franchise tax is not charged based on the side of the business, instead, tax rules are used.

Franchise Tax vs. Income Tax

Income taxes are different from franchise taxes, while income taxes are charged based on the profits a corporation makes within an accounting period, a franchise tax is a tax levied on a business for operating in a state. Franchise tax also differs from an income tax in the sense that irrespective of whether a business makes a profit in a given year or not, it must pay a franchise tax. Income tax, on the other hand, is paid based on the amount made as profit. In most cases, companies pay both income tax and franchise tax.

Businesses Exempt from Franchise Tax

There are some businesses that are exempt from paying franchise tax, sole proprietorships do not pay franchise tax because they are duly registered with the state in which their business operation is located. Aside from sole proprietorships, general partnerships, unincorporated political committees, real estate mortgage investment conduits and certain trusts are exempt from a franchise tax. All the corporations mentioned here must be exempted under the Internal Revenue Code.