Tax Awareness: Foreign Corporations Operating in California

business formation

 Your business is doing well and you are expanding across the country. Your new COO has suggested taking your business into California but you sent her back to first investigate what initial steps companies who start to do business in the state must undertake to operate legally.  Here is some of the information you need to know before bringing your business to the Golden Bear state.

Qualifying, Doing Business or Deriving Income in California

California has several requirements that may apply to your business before you can begin operating in the state. Initially, California taxes can be a surprise for a business that has not done some advance tax planning. In addition, a foreign corporation can’t simply show up and open its doors in California without first obtaining permission from the Secretary of State to begin operating.

1. Qualifying to Operate

Permission from the Secretary of State comes in the form of a Certificate of Qualification governed by Cal. Corp. Code, § 2100 et seq. that mandates that foreign corporations provide some vital information including:

  • Name of corporation
  • State in which the business is incorporated
  • Name and address for an agent for service of process
  • Consent for service of process

If your business successfully completes its application and pays the necessary $100 fee and any necessary handling fees, the Secretary of State will issue a Certificate of Qualification which allows your foreign business to operate in California as a qualified and legal entity.

2. Taxing Businesses in California

After your business qualifies to operate in California, you then need to be aware of the three types of income taxes that are imposed on businesses in the state: a corporate tax, a franchise tax and an alternative minimum tax. Just as death is a certainty, getting taxed just for the privilege of doing business in California is another.

Here’s why:  Every company doing business in California must at least pay a franchise tax, a tax imposed just for the right to exist as a legal entity and to do business within the state. The state franchise tax applies to S corporations, LLCs (limited liability companies), limited partnerships (LPs) and limited liability partnerships (LLPs). The franchise tax is a minimum annual tax of $800 even for businesses that don’t declare any income in the tax year. As such, even traditional corporations, often called C corporations, must pay a franchise tax despite not having a positive, year-end net income.

“Doing business” in the state generally means engaging in any transaction for financial or pecuniary gain or profit.  Your operation will likely be considered to be doing business in California if you enter into contracts in California, hire employees in the state or begin performing other significant activities in the state, such as the solicitation of sales through an onsite office. “Net income” is derived by taking the company’s gross income and then subtracting any allowable expenses and other deductions.

Corporations and LLCs who elect to be treated as corporations with positive net income escape paying the state franchise tax. However, these businesses will pay a flat 8.84% tax on net income from business done in California. Further, corporations who try to write off business expenses to reduce their net income will be subjected to an alternative minimum tax (AMT) of 6.65% on any net income.

S corporations, LLC’s, LLP’s and limited partnerships all have a different set of tax rules that are applicable to the money they earn in the state. As such, foreign businesses contemplating operating in California are well served by enlisting the services of a competent tax professional such as the experienced tax attorneys at Business Estate and Tax Attorneys P.C. in Orinda and San Francisco. Contact us and we will provide your business with helpful legal advice you need to assist you with your strategic business planning steps.

Attorney Leighton Burrey has a deep background in the often-intertwined fields of estate planning, tax law, business law, and litigation. He founded Business Estate & Tax Attorneys, P.C., as a full-service law firm for businesses and families that need sophisticated legal guidance in planning for the future and navigating complex challenges. The law firm provides tailored legal strategies that take into account all aspects of a business owner’s or family’s financial interests.

Disclaimer: The information in this article is for general purposes only, and it is not intended as a substitute for legal advice.