High taxes in California drive away major corporations, but small businesses are left with tax debt
If you live in California, you might be aware that large companies have been leaving the state in droves since the pandemic. When remote work became common and big tech no longer had to worry about recruiting local talent, companies like Hewlett Packard, Tesla, and Green Dot fled California due to high corporate taxes.
Where did they go? Primarily Texas, a state with no individual income tax or state corporate taxes.
California Business Exodus: By the Numbers
Statistics from The California Policy Institute said that 237 businesses have left California since 2005. But other studies revealed the numbers to be much higher: 352 companies left California between 2018 and 2021, taking with them $391 billion in revenue, combined. In California, a significant portion of that revenue would have gone to state taxes.
It’s not easy for a tech giant with corporate headquarters and hundreds or thousands of employees to relocate. But these companies made it a priority. It was worth it to do so for the tax benefits.
Meanwhile, sole proprietors, partnerships, independent contractors, and small business owners may be stuck in California. While it’s hard for a massive business to relocate, sort of like trying to steer a large ship, middle-income business owners may find it even harder for a variety of reasons, both personal and business-related.
Small business owners often stay where they live for these and many other reasons:
- They have built up a solid local customer base
- Their children are settled into a good school,
- Their spouse has a good job with benefits
- They like their home
- They like California (Hey, we aren’t going to argue: beautiful beaches, vibrant nightlife, world-class attractions! But it all comes with a high price)
But, as a small business owner in California, you may find yourself saddled with additional taxes that you may not have to pay in other states.
What Is An LLC?
An LLC, or Limited Liability Company, is a business structure incorporated at the state level. LLCs can have single members, or multiple members, which would make the LLC a partnership.
Owning an LLC provides you with certain protections. If someone sues your business, they may not be able to go after your personal assets, including your home and your car, if you own an LLC. Depending on how you structure your LLC (as an S-Corp or sole proprietorship), you may also gain some tax advantages.
State vs. Federal Taxes for LLCs in California
Before we start exploring state taxes for LLCs, let’s look at how LLCs are taxed at the federal level. An LLC has an option to file as a corporation, partnership, or a sole proprietor. Sole proprietors are considered “pass-through” or “disregarded” entities, which means the LLC doesn’t file a separate tax return; the taxpayer declares all income and expenses for the LLC on their individual tax return, filing a Schedule C to show their business expenses.
Even if a business owner doesn’t draw a salary from the LLC, all revenue earned by the LLC is considered part of the business owner’s income. Additionally, if you file as an LLC without electing to be taxed as a corporation, you’ll still be responsible for self-employment tax.
Self-employment tax equals 15.3% of your net earnings from the business, with 12.4% going to Social Security and 2.9% going toward Medicare. For W-2 employees, these costs are split 50/50 with your employer, with the worker’s percentage withheld from their paycheck. A sole proprietor, on the other hand, covers both portions of these taxes. This is separate from income taxes.
If your LLC has taken S-corp election, meaning you file as a corporation, you don’t have to pay self-employment taxes. But, it’s still a pass-through entity, which means that you report your income and expenses on your personal income tax returns.
As far as federal income tax goes, LLCs that file as sole proprietors or S-corps pay taxes based on their overall income level, including income from the business plus other earned income, which includes their spouse’s income if they are married, filing jointly. Your marginal tax rate is determined by your income tax bracket. Tax rates range from 10% up to 37% for the 2024 tax year. You can find all the income tax brackets here.
Understanding California Income Tax Rates
California has nine different income tax brackets, ranging from 1% up to 12.3%. Like federal taxes, state taxes are also progressive, where you only pay your marginal tax rate (the highest tax rate) on income that falls into that range.
Because the tiers are different for income levels at the state and federal level, you may owe taxes in California but not at the federal level. Here is a chart of California’s tax brackets and tax rates for 2024. It’s worth noting that California has the highest state income tax rates in the country.
| Tax Rate | Income (Single) | Income (Married Filing Jointly) |
| 1% | up to $10,412 | up to $20,824 |
| 2% | $10,413 – $24,684 | $20,825 – $49,368 |
| 4% | $24,685 – $38,959 | $49,369 – $77,918 |
| 6% | $38,960 – $54,081 | $77,919 – $108,162 |
| 8% | $54,082 – $68,350 | $108,163 – $136,162 |
| 9.30% | $68,351 – $349,137 | $136,163 – $689,274 |
| 10.30% | $349,138 – $418,961 | $689,275 – $837,922 |
| 11.30% | $418,962 – $698,271 | $837,923 – $1,396,542 |
| 12.30% | $698,272+ | N/A |
| 13.30% | N/A | $1,396,543 |
How Much Will Your LLC Get Taxed in California?
In addition to your personal income tax on earnings from your LLC in California, businesses in the state also pay additional income taxes. Every LLC pays an $800 franchise tax fee every year they are in business after the first year of incorporation. If you file as an S-corp, you’re also subject to an additional 1.5% in taxes on your net income.
Why Do I Owe California State Taxes But Not Federal?
You might owe state taxes in California but not federal income taxes for a variety of reasons.
You fall into a different tax bracket in your state
If you compare the tax brackets for federal income tax and state taxes, you’ll see that the first tax bracket of 10% and 1%, respectively, has a lower cut-off in California. You’ll pay the lowest marginal tax rate on the first $10,412 of your income in California, while that figure is $11,600 for federal purposes for individual taxpayers. (These figures are $23,200 and $20,824 for married couples filing jointly.)
At the high end of the tax brackets, you don’t pay the highest marginal tax rates of 37% (federal) until your income reaches $609,351 for individuals or $731,201 for married couples filing jointly. In California, the highest marginal rate of 12.3% begins at $698,272 for individuals. Married couples, filing jointly, pay 13.3% in state income taxes on any part of their income exceeding $1,396,543.
More individual income taxes on high earners
Additionally, California collects a 14.4% tax on any wage income exceeding $1 million, plus a 1% “mental health services” tax on income over $1 million.
Alternate Minimum Tax (AMT)
Plus, if you have an adjusted gross income (AGI) of more than $290,000, roughly, you may be subject to the state’s Alternate Minimum Tax of 7%, regardless of your deductions.
Additional corporate taxes
Along with California’s tax rules and tax brackets that differ from the federal brackets, LLCs in California also pay a franchise tax. LLCs with an S-corps election also pay an additional income tax, although you can avoid federal self-employment taxes by filing as an S-corp.
If you are facing a large state income tax bill in California, Alleviate Tax is here to help. Our team of tax professionals, including tax lawyers licensed to practice in California, can help you find the tax debt relief you need.
Don’t wait until you are in danger of losing your business due to unpaid taxes. Reach out to Alleviate Tax now.
FAQs
Find out what small business owners like yourself are asking about LLCs and taxes in California.
Do LLCs not pay federal income taxes?
As a pass-through entity, an LLC is subject to federal income taxes based on the business owner’s personal income tax bracket.
What taxes does an LLC pay in California?
In addition to state income taxes, LLCs in California also pay an $800 annual franchise tax.
Are LLC taxes hard?
LLC taxes can be complicated. Small business owners may not know what business expenses they can legally deduct to reduce their tax liability. Reach out for help from a tax professional when you’re filing taxes your state or federal taxes as an S-corp or sole proprietor.
How is an LLC taxed?
An LLC is taxed as a pass-through entity, which means taxpayers must declare all income and expenses on their personal income tax returns. The income is taxed on a progressive basis according to the established tax brackets and marginal tax rates.
