Texas imposes a tax on non-exempt organizations doing business in the state. This is known as the franchise tax, and it is considered a “privilege tax” -- you pay it for the privilege of operating in Texas. The amount of franchise tax due depends on a business’ revenue. Businesses whose annual revenue falls below a certain threshold are not required to pay franchise tax. However, all businesses in Texas are required to file a franchise tax report, regardless of whether they are actually required to pay the tax.
Background on the Tax
The franchise tax as currently structured dates to 2006, after the Texas Supreme Court ruled the state's school finance system unconstitutional. Needing a new source of education funding, the Texas Legislature overhauled the franchise tax -- what had been considered a "largely voluntary" tax -- to make it mandatory for all businesses defined as taxable entities. Current law requires any taxable entity doing business in the state of Texas to file a franchise tax report, regardless of the amount of tax due.
Who's Subject to the Tax
Texas defines a taxable entity as any organization that is legally recognized as a business by the state of Texas. Such businesses include corporations, limited liability companies, partnerships, business trusts, business associations, professional associations, joint ventures and other legal entities. Sole proprietorships, general partnerships solely owned by individuals and other “passive entities” are not subject to franchise tax.
A non-profit organization that conducts business functions can request to be exempt from paying franchise tax by filing an application for exemption with the state comptroller. If an organization receives exemption from the tax, it does not have to file annual franchise tax reports.
Calculating Amount Due
A business' franchise tax bill is determined by a formula that takes into account total revenue, cost of goods sold and compensation. Start with the lesser amount of three calculations: total revenue minus cost of goods sold; total revenue minus compensation; or total revenue times 70 percent. The result is the "taxable margin." For most businesses, the tax is 1 percent of the taxable margin for wholesalers and retailers, it's 0.5 percent. Any entity with annual revenue of $10 million or less can elect to file an E-Z Computation report and pay an amount that is determined by multiplying total revenue by an apportionment factor and then multiplying the result by 0.575 percent.
Thresholds and Discounts
Any entity with a total annual revenue of less than $300,000 is not required to pay franchise tax. These entities are still required to file the franchise tax report, and can be penalized and fined for not doing so. Discounts are available for entities with a total revenue greater than $300,000 but less than $900,000. These discounts reduce the amount of tax an entity is required to pay, and range from 80 percent of tax due to 20 percent of tax due, depending on total revenue.
All taxable entities must file a franchise tax report, regardless of annual revenue. The initial franchise tax report is due one year and 89 days after the organization is recognized as a business in Texas. If a non-Texas entity is doing business in Texas, a franchise tax report must be filed one year and 89 days from the day it begins doing business in Texas. Franchise tax reports can be filed electronically at the Texas Window on State Government website.