What is franchise tax?
Franchise tax is an annual charge that some states impose on a business for the privilege of existing or doing business in the state. The name is misleading, it has nothing to do with franchises in the everyday sense, and it isn't a tax on income. It's closer to a membership fee the state charges an entity for being on its books. Crucially, many states set a flat minimum that applies regardless of revenue, which means a company that earns nothing at all can still owe the full amount.
That single feature, owed whether or not you did any business, is what makes franchise tax the quiet driver behind a huge share of dissolutions. An LLC someone formed and forgot isn't free to leave sitting; in a franchise-tax state it's running up a bill every year it stays registered.
Why do states charge franchise tax?
It's a revenue source tied to the benefit of the state's legal framework. When you form or register an entity, you get the state's liability protection, its courts, and its business infrastructure. Franchise tax is how the state charges for that standing, independent of whether the business is profitable. Because it's levied on the entity rather than on earnings, it's predictable revenue for the state, and a predictable cost for you, which is why it belongs in any honest calculation of whether to keep an entity open.
California's $800 minimum, the classic example
California is the state that makes franchise tax famous. Every California LLC and corporation owes an $800 annual minimum franchise tax to the Franchise Tax Boardfor each year the entity exists, whether or not it did any business. Higher-revenue LLCs owe an additional fee on top of the $800, but the minimum is the floor.
The reason this matters so much: the $800 keeps accruing until the entity is formally cancelled. A California LLC that someone formed and never used doesn't just sit there harmlessly, it's adding $800 a year, plus penalties and interest once payments are missed. A few years of that turns a forgotten LLC into a multi-thousand-dollar back-tax problem. That's the driver behind so many never-used LLC closures, and it's why California expects your FTB account to be current before a cancellation goes through cleanly.
Delaware's franchise tax
Delaware, the most popular state for incorporation, charges an annual franchise tax too, and it must be paid in full before you can close. Delaware LLCs pay a flat annual tax, while Delaware corporations face a franchise tax that can be calculated by more than one method and varies with the number of authorized shares. The practical point for closing is the same as everywhere else: the tax runs until the entity is cancelled, and Delaware won't process a certificate of cancellation while franchise tax is outstanding. Confirm the current figure with the Delaware Division of Corporations, since the calculation methods can produce very different numbers.
Texas and the margin tax
Texas takes a different approach with its franchise (margin) taxcalculated on a business's margin rather than a flat minimum. Texas sets a no-tax-due revenue threshold below which many small businesses owe no franchise tax at all, but they may still have to file a report, and the account has to be current to close. That's why Texas requires a Certificate of Account Status from the Comptroller before it will terminate an entity: the franchise-tax account has to be squared away first. Even where no tax is due, the compliance obligation persists until you formally close.
Why franchise tax drives the decision to dissolve
Put the pieces together and the logic is stark. Franchise tax is owed for existing, not for earning; it often has a flat minimum; and it keeps accruing until the entity is formally closed. So a company that has stopped operating but hasn't been dissolved is a bill that never stops arriving. People usually discover this the hard way, a notice from the state tax authority for a company they thought was long done, or a demand for several years of back minimum tax on an LLC they forgot they had.
This is the economic engine behind most voluntary dissolutions. It's rarely that people want to file paperwork; it's that the alternative is paying to keep a dead entity alive. Weighing that annual cost against the one-time effort of closing is the calculation at the heart of dissolving versus just letting it lapse.
How does dissolving stop the franchise tax?
Because franchise tax is tied to the entity's existence, formally ending that existence is what stops the charge. Once your dissolution or cancellation is recorded with the state, the tax stops accruing going forwardthe meter is switched off. Two caveats keep it honest:
- Back tax still has to be settled. Dissolving stops future accrual, but it doesn't erase what already piled up. Most states require the account to be current to close cleanly, so you generally clear the back balance as part of the close.
- Timing matters. Some states charge for the year in which you dissolve, so closing early in a year versus late can affect whether that year's tax applies. It's worth confirming your state's cut-off.
The bottom line: leaving an entity open is the expensive option, and a proper dissolution is the only way to make the annual bill actually stop.
What to do about it
If you're carrying an entity you no longer use in a franchise-tax state, the math usually points one way: the sooner it's formally closed, the sooner the annual charge stops. Start by confirming what your state charges and whether any back balance is outstanding, then close the entity properly, the state filing, plus, if it ever had an EIN, closing the IRS business account and settling final returns. That's the clean way to end the franchise-tax obligation for good. If the entity was administratively dissolved for non-payment, read what that status means before deciding your next step.