Was a for-profit corporation exempt from Texas franchise tax because it performed services formerly provided by government agencies?

Plain-English summary

A for-profit corporation received no franchise-tax exemption merely because it performed services for government agencies.

The corporation contracted with federal, state, county, or city government to perform services previously handled by those agencies. Section 171.001 still applied.

The letter summarized the former tax: taxable capital based on equity at 0.25%, earned surplus based on modified federal taxable income at 4.5%, both apportioned by one gross-receipts factor, with the greater tax due. If the calculated amount was under $100, no tax was owed, but the report still had to be filed.

Currency note: Those rates and minimum-tax rules are historical. Texas replaced the former tax with the margin tax effective January 1, 2008.

What this means for you

Private government contractors

Performing a public function did not convert a for-profit contractor into an exempt government entity.

Tax professionals

Separate government-customer sales-tax issues from entity-level franchise-tax liability; this response addressed franchise tax only.

Common questions

Q: Did government contracts create an exemption?
A: No.

Q: Which former components were computed?
A: Taxable capital and earned surplus.

Q: Was a report required if tax was under $100?
A: Yes.

Citations and references

• Texas Tax Code Sec. 171.001

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/9806566L

Original ruling text

June 19, 1998

Dear **:

Your June 5, 1998 letter was forwarded to me for response to your questions
regarding the Texas franchise tax. You should have received a letter from Mr.
David Somerville that addressed your sales tax questions.

You stated in your letter that the "for-profit entity contracts to perform
services for either the federal, state, county, or city government for services
previously performed by the respective government agency." Your specific
question regarded the "for-profit" entity's liability for franchise or
corporate taxes.

Texas does not have a corporate income tax. However, Section 171.001 of the
Texas Tax Code imposes a franchise tax on "each corporation that does business
in this state or that is chartered or authorized to do business in this state."

There is no exemption from the tax for "for-profit" corporations that provide
services for or on behalf of government entities.

The franchise tax consists of two components: Taxable Capital and Earned
Surplus. The taxable capital component is based on the equity (i.e. assets
minus debts) of the corporation. The earned surplus component is based on
federal taxable income with modifications. Both components are apportioned by
a single gross receipts factor and multiplied by the appropriate tax rates
(.25% for taxable capital and 4.5% for earned surplus). A corporation will pay
the greater of the two taxes. If the calculated tax due is less than $100, no
tax is due, but a franchise tax report must be filed.

For additional information on the calculation of the franchise tax, please
review our publication, "The Texas Franchise Tax on Corporations." This
publication can also be found on the Comptroller's Window on State Government
at . Click on "Texas Taxes", then under the heading
"Tax Information", click on "Tax Publications." On the "Tax Publications" page
locate the heading "Franchise Tax" and you will see the "The Texas Franchise
Tax on Corporations (96-114)."
This response is based on current law and the facts presented. If there are
different or additional facts, the response may change.

If you have any questions about this or any other franchise tax matter, please
call me at 1-800-531-5441, extension 34612. My direct number is (512)
463-4612. You may write me at Tax Policy Division, Comptroller of Public
Accounts, Austin, Texas 78774.

Sincerely,

Janet Spies
Tax Policy Division