How to avoid California Franchise tax by operating as a sole proprietor
HOW TO AVOID CALIFORNIA FRANCHISE TAX
The only way to legitimately avoid the $800 franchise tax is to operate as a sole proprietor. This can be dangerous because you will have no liability protection of your personal assets. If you have a small business with very limited exposure to liability, this may be the best route for you.
A lot of people try to avoid this tax by incorporating in another state. Say Nevada or Wyoming. What they don’t understand is that if you are a resident of CA, and you own a company in another state. You will have to pay the $800 tax on that company if California finds out (and believe me, they get a copy of your tax return, and if you show income from another company, they will find out). Some people can fly under the radar by being paid as an employee and hiding the fact that they own the company. A lot of people also like incorporating in Wyoming for this reason, because Wyoming doesn’t track who owns the company, just the directors. So CA can’t get WY to tell them who owns these Wyoming companies, because Wyoming itself doesn’t know, and frankly doesn’t care.
This can be a tricky endeavor, and ultimately could be seen as tax evasion, which could land you in court with the state. Do people do this?? Yes. Do they always get caught? No.
A common practice to try to avoid the California $800 franchise tax is to have a buddy, friend, or family member own a C corporation in another state. Wyoming has no corporate income tax and small regulation, making it favorable. A C corporation is the highest taxed entity type, but the profits don’t have to come down on the owners’ personal income. They can stay in the company. If you made an S corp., you would have to take the profit at the end of the year on your personal tax returns. So if your buddy owns a C corp. based in another state, and the company pays you as an employee, you are technically, just an employee and would be subject to CA personal income tax.
Will CA someday make a company that pays someone in CA to register with CA, thus making the whole thing pointless? It very well could, and one could argue that technically you are required to do that now, anyway. All this is really a pointless endeavor if you are going to operate your business in California. If you are going to operate in California, and can’t hide that fact from the state, you will then have to register your company with the California Secretary of State anyway. Many people get duped into incorporating in Nevada, and only finding out a couple months down the road they have to then register their business in California, thus making it way cheaper to have just paid the $800 franchise tax, and incorporated only in California.
LLC’s based in another state that just own assets, and will never show income while you’re a California resident, and don’t get a federal tax id number, can help people avoid the franchise tax. The key is that they don’t show any income while you’re a California resident. If you are planning on moving out of the state, sometime in the near future, this can be a helpful technique.
There are also many more techniques that skirt around the issue of California’s burdensome taxing (why do you think most celebrities start their own non-profit groups?). There are always going to be techniques to try to navigate around the rules of California because the state goes way overboard and taxes everyone practically to death. Ultimately is all the hassle of trying to avoid it worth it? In most cases, the answer is no. You would think California would just lower its’ business taxes to a normal rate even remotely close to what every other state in the U.S. charges, and then they might actually make more money, because people wouldn’t be so afraid of them.
You usually are better off to just bite the bullet, fork over the money to the state, and hope the fact that there is so much business and so many people in California, that you’ll make enough money anyway. Sometimes your time might just be worth the $800. Or you could always move to Wyoming, where there is almost no tax at all.
Now all that being said, there IS a major advantage to incorporating in another state like Nevada, Wyoming, or Montana. You company in California will owe the $800 a year the entire time it is in existence. So if you shut down for a year, and travel, and don’t make a dime, unless you dissolve the company, you will still owe $800 a year. Even if you don’t send in your annual statement of information, and get administratively dissolved, you will still owe the $800 a year. So if you incorporate in another state, you can just cancel your qualification to do business in CA and thus not have to pay the $800 for that company, and then if you don’t operate the business for awhile, it is still there, building credit history, longevity, and not costing you very much money to keep it active.
Your only cost would be the annual report and a registered agent fee in that state. Who knows, if you never use it again, maybe you can sell it as a shelf company. Wyoming for instance has no corporate income tax, but the annual report is $50. Idaho for instance has no annual report fee, but has corporate income tax on your net profits. We offer a discounted registered agent fee for Idaho, Montana, or Wyoming if you are just using it to base your company there, and if you hire us for your agent for California as well. We will still offer you the discounted price, if you cancel your registration in California at any time.
If you would like to start a company in another state, and would like to use Northwest Registered Agent, LLC. as your registered agent, please send us an email or give us a call. We would be happy to help you out. Please keep in mind, that none of this should be taken as legal advice. We are not lawyers, and don’t pretend to be. You should consult a licensed attorney for any type of tax planning. We provide national registered agent service within a price point that most people find affordable and helpful.