Expanding a business into California can be highly beneficial, but it also comes with important tax obligations. Out-of-state corporations that conduct business in California must comply with the state’s tax laws, even if they are incorporated elsewhere.
Understanding these tax responsibilities is crucial to avoid penalties, audits, and potential legal issues. In this blog post, we will outline the key tax obligations for foreign corporations operating in California and how businesses can ensure compliance.
When Is an Out-of-State Corporation Considered to Be “Doing Business” in California?
The Franchise Tax Board (FTB) defines “doing business” in California based on certain criteria. A corporation is considered to be conducting business in California if it:
- Is actively engaging in transactions for profit within the state.
- Has employees, representatives, or an office in California.
- Derives income from California-based customers, vendors, or properties.
- Meets the Economic Nexus Threshold, meaning it has:
- More than $700,000 in annual sales in California, or
- More than $61,040 in California property, or
- More than $61,040 in California payroll.
If a corporation meets any of these criteria, it is subject to California tax laws.
Key Tax Obligations for Out-of-State Corporations
1. California Franchise Tax
All corporations “doing business” in California must pay the minimum franchise tax of $800 per year, regardless of profitability.
• New corporations are exempt from the franchise tax for their first year, but they must still file a tax return.
• The tax is due even if the company operates at a loss or has no business activity during the year.
2. Corporate Income Tax
If an out-of-state corporation earns income from California sources, it must pay corporate income tax based on its California-apportioned income.
• The corporate tax rate is 8.84% for C-corporations.
• S-corporations pay a 1.5% tax on net income but still owe the $800 minimum franchise tax.
3. Sales and Use Tax Obligations
Out-of-state corporations selling goods to California customers may be required to collect and remit California sales tax.
• If a business has a physical presence (such as an office, warehouse, or employees in California), it must register with the California Department of Tax and Fee Administration (CDTFA) and collect sales tax.
• Businesses exceeding $500,000 in annual sales to California customers must also collect sales tax, even without a physical presence (under Wayfair rules).
4. Employment Taxes
If a corporation has employees working in California, it must:
• Register with the Employment Development Department (EDD).
• Pay California payroll taxes, including unemployment insurance, disability insurance, and employment training tax.
• Withhold state income tax from employee wages.
5. Filing Requirements with the California Secretary of State
Foreign corporations must register with the California Secretary of State before conducting business in the state.
• Businesses must file a Statement of Information (Form SI-550) annually.
• Failure to file can result in penalties and suspension of business operations in California.
Penalties for Non-Compliance
Failing to comply with California tax laws can result in:
• Late payment penalties and interest charges.
• Suspension or revocation of the corporation’s right to do business in California.
• Personal liability for unpaid taxes in certain cases.
How an Attorney Can Help with Business Tax Compliance
Navigating California’s tax laws can be complex, especially for out-of-state corporations. An experienced business attorney can:
• Determine tax liabilities and compliance obligations.
• Register your corporation correctly with state agencies.
• Assist with audits and tax disputes with the Franchise Tax Board.
• Minimize tax exposure through strategic tax planning.
Operating in California as an out-of-state corporation comes with significant tax responsibilities. By understanding and complying with franchise taxes, corporate income taxes, sales tax, and employment taxes, businesses can avoid legal issues and financial penalties.
