Texas Entity Notes: No Personal Income Tax, the Franchise Tax, and Reports

Texas attracts business owners for the absence of a personal income tax, but that headline hides several state-level requirements that any Texas entity still needs to handle. This overview is general, educational, and not a substitute for the Texas Comptroller's current instructions, since thresholds and rates change.

No personal income tax, but there is a business tax

Texas does not tax individuals on wage or business income. That is different from having no business taxes. Most entities that are formed in Texas or do business in Texas are subject to the Texas franchise tax, sometimes called the margin tax. It applies to corporations, LLCs, partnerships, and certain other entities. Sole proprietorships and certain general partnerships owned entirely by natural persons are generally exempt, and there are other exemptions.

How the franchise tax works in general terms

The tax is based on an entity's "margin," which is generally computed as the lowest of several alternatives, such as total revenue times 70 percent, total revenue minus cost of goods sold, total revenue minus compensation, or total revenue minus a statutory deduction amount. A rate applies to the margin (with a lower rate for qualifying retail and wholesale businesses).

Importantly, a no-tax-due threshold exempts entities whose annualized total revenue is below a set level from owing tax. The threshold has been in the millions of dollars in recent years and changes periodically. Many small businesses fall below it, but they generally still must file a report. Also, small entities may qualify for the EZ computation in certain cases. Check the Comptroller's site for the current threshold and forms.

Reports still required

Even if no tax is due, entities generally must file a franchise tax report and a Public Information Report (or an Ownership Information Report for entities that are not required to file the public information report), with an annual due date in the spring, and extensions available. Failure to file can lead to penalties, forfeiture of the entity's right to transact business, and in some cases personal liability for certain debts of the entity that arise after forfeiture. Do not treat "no tax due" as "no filing due." See annual reports and franchise taxes.

Formation basics

Texas LLCs are formed by filing a Certificate of Formation with the Secretary of State.
Texas requires a registered agent and registered office in the state.
Texas allows series LLCs under its statute. See series LLC explained for the risks and caveats.
Foreign entities doing business in Texas register with the Secretary of State. See foreign qualification basics.

Sales tax and other taxes

Texas has a state sales tax, with local sales taxes that can bring the combined rate to the local cap. Many services are taxable in Texas, including certain data processing and information services, and the list of taxable services is broader than in some states. If you sell taxable goods or services, you need a sales tax permit from the Comptroller. Remote sellers can create sales tax obligations through economic thresholds. See sales tax nexus basics.

Property taxes are significant, including business personal property taxes on equipment and inventory in some cases, filed at the county appraisal district level.

Employment taxes

Employers register with the Texas Workforce Commission for unemployment insurance tax. Texas has no state income tax withholding. Workers' compensation coverage is optional for many private employers in Texas, but declining coverage has legal consequences in employee injury claims, so consult an insurance professional.

S-corp elections in Texas

Because Texas has no personal income tax and does not impose a separate entity-level income tax on S-corp income, the federal S-corp analysis dominates. The franchise tax still applies at the entity level regardless of federal tax classification, and salary and payroll costs interact with the compensation deduction option in the margin calculation. Run the federal economics using when to elect S-corp status.

Owners living in Texas but earning elsewhere

A Texas resident with a business earning income from customers or property in states with income taxes may owe those states nonresident income tax. Residing in Texas does not remove state taxes on income sourced elsewhere. Similarly, a Texas-based business with employees in other states will need to register there. See state income tax and remote employees.

Common Texas pitfalls

Ignoring the annual report because "no tax is due."
Missing the Public Information Report, which can lead to forfeiture.
Assuming no sales tax on services. Texas taxes some.
Forming a Texas entity while operating elsewhere without registering in the other state.
Assuming no state tax exposure for out-of-state activity.
Not updating the registered agent when the agent resigns or moves.
Inactive entities left to forfeit without dissolving them properly.

Planning checklist

Form the entity and confirm the registered agent.
Register with the Comptroller for franchise tax and sales tax as applicable.
Register with the Workforce Commission if hiring.
Set a calendar for the franchise tax report and Public Information Report.
Determine county and city licensing and tax requirements.
Track revenue to see whether you are near the no-tax-due threshold.

For a structure review that includes multi-state income and sales tax exposure, AE Tax Advisors can help, and a discovery call is a simple first step. See also forming in Delaware or your home state.