A WSJ article from 2020 starts, “Moves by high-profile companies to Texas from California are likely to improve the personal finances of executives and offer employees more affordable housing—but make little difference to the firms’ tax bills.”
The article goes on to explain that most of the tax benefits in moving to Texas are enjoyed by executives reducing their personal income tax to 0. It also notes the lower cost of living in Texas versus California and the fact that it’s easier and cheaper to hire, especially in the tech industry, without the competition of Silicon Valley.
While the article may describe the experience of some Fortune 500 companies, we have clients experiencing a huge state tax reduction on corporate profits as well. For one client, moving to Texas significantly reduced their tax payments on corporate profits.
Navigating Physical vs Economic Nexus
We work with a marketing agency that was founded in California as an S-corp and builds digital marketing and branding strategies for clients across the U.S. Their 100% owner decided to move their family and their business to Texas. In California, all net income of their S-corp was taxed at the shareholders rates of up to 13.3%. Our client paid over $75,000 in California corporation taxes in 2019.
As we mentioned, the agency’s customers varied annually and were located in multiple states depending on the year. This means regardless of whether the company’s physical HQ was in California or Texas, we had to navigate the economic nexus rules for sales and income tax obligations. This can get tricky considering every state’s income sourcing rules can vary, but we managed to reduce the agency’s annual tax obligation to just $2,000 in Texas Franchise Tax and zero dollars paid to any other states they do business in.
In addition to California, we’ve worked with businesses moving from other high income states like Hawaii, New York, and Massachusetts that are also seeing huge personal and corporate tax benefits in Texas. Navigating the Texas franchise tax is usually one of the first hurdles.
Texas Franchise Tax
Calculating Texas franchise tax is complicated and one of the main reasons companies seek out a CPA in Texas. The tax payment is based on a business’ margin above $1.18M in revenue and there are multiple ways to calculate this – the EZ form or the long form. A CPA can help you select the calculation method that will benefit your company most. There are also opportunities to apply tax credits for R&D, Business Loss Carryforwards and Certified Historic Structures Rehabilitation to reduce your taxable margin. Texas businesses have to file an Annual Franchise Tax Report by May 15th every year. The benefits of zero personal income tax can be easily wiped away if franchise tax isn’t handled diligently – but if it is, we’ve seen huge reductions in overall business taxes. It’s also important to note that wholesalers and retailers qualify for a reduced tax rate of 0.375% in Texas and may be eligible for cost of goods sold deductions.
As an example, we recently took on an e-commerce client in the CPG industry moving their business and employees to Austin from Massachusetts. Regardless of economic nexus and the fact that they were shipping product across the country, due to the Massachusetts’ sales throwback rule, they were paying nearly 8% in state taxes. In moving their company to Texas, we helped them navigate the Texas Franchise Tax calculations, the Interstate Income Act (PL 86-272), and economic sales nexus guidelines to reduce their total tax obligation to less than 1% of their net income.
Beyond the Texas franchise taxes and non-existent Texas income tax, there is one more category of taxes that are debated most often when considering a move to Texas.
Texas Property Taxes
The cost of living in Austin is 25% less than living in LA on average. Many say that Texas property taxes will happily make up the difference. The state does not collect property taxes, but at the county level, property taxes are the 7th highest in the country at an average of 1.69%. Among our clients in Texas’ biggest cities, we see a property tax rate of 2-3% of the property’s assessed value. However, many exemptions exist to reduce that taxable base including Homestead Exemptions and exemptions for seniors, veterans, disabled personas and charitable organizations, to name a few. Reducing your Texas property tax is doable and shouldn’t overshadow the business tax benefits of moving to the Lonestar State. There are also significant tax benefits of selling real estate in Texas after you’ve invested in property.
As an accounting firm in Austin, we’re obviously biased in encouraging businesses and individuals to move their income and operations to Texas – but the money we see our clients saving reinforces that bias. If you’re considering a move to Texas, especially the Austin area, or have already arrived and are navigating your 2021 tax obligations, we’d like to help. Contact us today.