Meaning
Annual fees imposed by certain jurisdictions grant a business entity the legal right to exist and conduct operations within that state. A franchise tax is often calculated based on the net worth or the total number of authorized shares rather than on corporate income. Payment of this levy is a mandatory condition for maintaining a certificate of good standing.
Calculation Method
Certain states use formulas involving par value and asset distribution to determine the amount owed. The franchise tax scales with the size of the capital structure even if the company generates zero revenue during the fiscal year. Startups must manage their authorized share count carefully to avoid unexpected increases in these recurring costs.
Legal Standing
Delinquency in paying the required amount results in the loss of the right to bring a lawsuit in state courts. Once the franchise tax becomes overdue, the state may void the corporate charter and place the entity into a void status. Restoring the entity requires the payment of all back taxes plus significant interest and penalties.
Tax Liability
Responsibility for the payment falls on the corporation itself as a cost of maintaining its legal personality. The franchise tax remains a fixed obligation until the company is formally dissolved or merged into another entity. Investors review the payment history of this tax during due diligence to ensure no hidden liabilities or status issues exist.
This levy constitutes a lien on the assets of the company until satisfied in full by the directors.
