What to look out for with the Franchise Tax in California

In this episode of Coffee with Carl, attorney Carl Zoellner explains why you need to keep a close eye on how California taxes different entities.

Updated May 25, 2021

Today I want to talk a little bit about the Franchise Tax in California. 

California is one of those states that’s incredibly difficult to work with from a business perspective, especially if you’re a California resident.  Why? Because basically the franchise board’s position is that any entity you own nowadays should be subject to the California Franchise Board. 

Recently, there was a case that came up with a limited partnership in California, where it’s referred to now as a disregarded limited partnership, which wasn’t a recognized thing for many years. 

The same taxpayer for the limited partner as the general partner in a limited partnership can now have what’s referred to as a disregarded limited partnership. Used to be that partnership would file a return 1065 just as any other partnership would. 

From the federal government side, they said, “Listen, if it’s the same taxpayer, then don’t worry about it. We’ll treat it like a disregarded entity.” I say that to express that this type of entity came in front of the franchise board in California and the ultimate decision for that entity was that it did not or was not subject to California franchise tax at all. 

It’s really interesting and it happened about a year ago. Personally, I’m still skeptical. Usually, when these types of things pop up in California, the franchise board is relatively quick to close that loophole. 

I’m cautiously optimistic that this is a strategy that can be used, or if it is used, it should be used understanding that things may change in the future as they often do. 

Another common question that usually comes along with these, when we start talking about them is… 

Do disregarded LLCs work the same way? 

They do not. In California, a disregarded LLC would still be subject to the California franchise board. It’s important to note that distinction, from my opinion or from my perspective, to look at it as likely that California closes that gap and the entity would still be subject to the franchise tax. 

But that’s something that’s speculative on my part. That’s something we’ll have to see. It’s one of those items that’s out there, but it’s worth mentioning. 

Trusts are not subject to the franchise tax

The other piece that is interesting or that you look at to avoid California franchise tax is using a trust to hold that property in California. Trusts are not subject to the franchise tax. However, most trusts do not provide asset protection. You could look at asset protection trusts in that regard but their nature causes  questions simply because California doesn’t recognize asset protection trusts and there’s just not a lot of case law on it. They may actually hold up very well. 

I haven’t seen enough to say that would be my preferred route. If you came to me and said, “Hey, Carl, I want a Delaware Statutory Trust in California.” I would say, “Great. You’re more than welcome to do that. Here’s my understanding of them, my concerns. If that’s the route you wanna go.”

Unfortunately, Anderson Business Advisors doesn’t set up Delaware Statutory Trusts. We are looking at Wyoming and a couple of different options in Wyoming that may work, but we can always provide a referral to a firm that does. 

Personally, I like the strategy that Anderson’s had consistently over the years. I don’t see a reason to rush into a change. 

However, you may see it come up more now because the longer that a disregarded limited partnership stays at the front of mind as not being subject to the franchise tax, the more popular it will become along the way. 

The Takeaway

Until next time, please continue taking advantage of all of our free content out there. I would love to see anybody who is a client at one of our classes or chat with us online. On the other side of that, if you’re not yet a client, I would encourage you to have your FREE Consultation, and we look forward to working with you. Until next time, thanks for joining me for this episode of Coffee with Carl.

Resources mentioned in this video:

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Got an idea for a future Coffee with Carl? Send it to Carl at cwc@andersonadvisors.com.

BONUS VIDEO

https://www.youtube.com/watch?v=nGNYnIOXwHg