How is an LLC Taxed in California?

Forming a Limited Liability Company (LLC) in California introduces your business to a unique set of tax rules that go beyond standard federal classifications. While the IRS considers your LLC a "pass-through" entity by default, California imposes its own mandatory taxes and fees that every owner must understand. This article explains exactly how California taxes an LLC, from the annual franchise tax to the gross receipts fee, and outlines the tax elections you can make to change your filing status.

The Starting Point: Federal and State Default Classifications

Before diving into California-specific rules, it's important to understand the default tax classification for an LLC. This starting point determines how income is reported on both federal and state returns unless a different election is made.

• Single-Member LLC (SMLLC): The IRS treats an SMLLC as a "disregarded entity." This means the business's income and expenses are reported directly on the owner's personal tax return using Schedule C of Form 1040. For California purposes, the income and expenses are similarly reported on the owner’s state personal income tax return, Form 540. The LLC itself does not pay federal income tax.
• Multi-Member LLC: By default, an LLC with two or more owners (members) is treated as a partnership for tax purposes. The LLC files a federal partnership return on Form 1065 to report its income, deductions, and credits. Each member receives a Schedule K-1, which shows their share of the partnership's profits and losses, and they report this information on their personal tax returns. In California, the LLC files a parallel state-level partnership return on Form 568.

This pass-through treatment is just the beginning. California adds two significant state-level taxes on top of this structure that apply to nearly every LLC doing business in the state.

California's Core LLC Taxes: Franchise Tax and the LLC Fee

Regardless of your LLC’s profitability or how you're classified for income tax purposes, California requires most LLCs to pay an annual franchise tax and, depending on revenue, a gross receipts fee.

The Annual $800 Franchise Tax

Every LLC formed, registered, or doing business in California is subject to an annual franchise tax. This is a minimum tax paid for the privilege of operating as an LLC in the state.

• The Amount: The annual franchise tax is currently $800.
• Who Pays: All LLCs, including those taxed as partnerships, S-Corporations, C-Corporations, or disregarded entities, must pay this tax.
• When It Is Taxed: You pay the $800 fee whether your business makes millions or loses money. It is not based on income or profit.
• Due Dates: For a new LLC, the first $800 payment is due by the 15th day of the fourth month after the LLC is registered with the California Secretary of State. After the first year, the annual tax is due by April 15th for calendar-year filers.

It's important to note that your LLC is exempt from the franchise tax in its very first taxable year. However, you will still need to prepay the second year's tax by the first-year return's due date. This can be confusing, so meticulous calendar management is key.

The California LLC Fee: A Tax on Gross Receipts

In addition to the franchise tax, California imposes an LLC fee that is based on the entity's total annual gross receipts sourced to the state. This is a tax on your total revenue, not your net income or profit. If your LLC's total California-sourced gross receipts are less than $250,000, you do not owe this fee; you only owe the $800 franchise tax.

If your revenue exceeds that threshold, you pay this fee in addition to the franchise tax. The fee is calculated on a graduating scale:

• $250,000 to $499,999 in gross receipts: $900 fee
• $500,000 to $999,999 in gross receipts: $2,500 fee
• $1,000,000 to $4,999,999 in gross receipts: $6,000 fee
• $5,000,000 or more in gross receipts: $11,790 fee

“Total California income” or "gross receipts" refers to all income—from all sources—that can be attributed to the state of California. This includes revenue from selling goods, performing services, or from the use of capital or property. The associated state form is the Form 3536 (Estimated Fee for LLCs), which is typically due by June 15th of the tax year.

Changing Your Tax Treatment: The S-Corp & C-Corp Elections

Some LLCs may benefit from choosing to be taxed as either an S-Corporation or a C-Corporation. This decision does not change the legal structure of your business—it remains an LLC—but it completely changes how it is taxed at both the federal and state level.

Electing S-Corporation Status

This is a common tax strategy for profitable LLCs. To make this election, an LLC files Form 2553 with the IRS. California automatically recognizes the federal S-corp election, so no separate state filing is needed to confirm the status.

The Benefits:

The primary driver for an S-Corp election is potential savings on self-employment taxes (Social Security and Medicare). For a default LLC, all net profit distributed to working members is subject to self-employment tax. With an S-Corp, owners must be paid a "reasonable salary," which is subject to standard payroll/employment taxes. Any remaining profit can be distributed to owners as dividends, which are not subject to self-employment tax.

The California Trade-Off:

While an S-Corp election can save on federal self-employment taxes, remember, nothing in California is that simple. When an LLC elects to be taxed as an S-Corporation:

• ✅ You no longer have to pay the California LLC Fee based on gross receipts.
• ❌ You are now subject to California's S-Corporation Tax Rate of 1.5% on net income (minimum $800, which is the same as the FTB payment amount).

The key calculation for California tax professionals is determining which is greater: the LLC fee on gross receipts or the 1.5% tax on net income. A high-revenue, low-profit business might save money with an S-Corp election by avoiding the LLC fee without incurring a large 1.5% S-corp tax. A highly profitable but lower-revenue LLC may be better served by remaining a default LLC.

Electing C-Corporation Status

It is far less common, but an LLC can also elect to be taxed as a C-Corporation by filing Form 8832 with the IRS. Under this structure, the business profit is first taxed at the corporate level at California's current corporate tax rate (currently 8.84%). Then, if profits are distributed to owners as dividends, they are taxed again on the owners’ personal returns. This “double taxation” makes the C-corp choice unattractive for most small businesses but might be considered by companies that need to retain large amounts of profit for reinvestment.

Filing Requirements & Key State Forms

Keeping track of the different filing requirements is just as important as knowing the taxes owed.

• All LLCs (default SMLLC and Multi-Member): Regardless of any federal elections or if an LLC is dissolved during a taxable year, it must file California Form 568, Limited Liability Company Return of Income by the original or extended due date, for all years it existed in CA. The Form 568 is a complex return that reconciles your pass-through income for California purposes, but its main function is to calculate the LLC franchise tax and the LLC fee.
• LLC Taxed as an S-Corp: If you've elected S-corp status, you will file Form 100S, California S Corporation Franchise or Income Tax Return instead of Form 568.
• LLC Taxed as a C-Corp: If you've elected C-corp status, you will file Form 100, California Corporation Franchise or Income Tax Return.

These forms must be filed in addition to the members' personal state tax returns (Form 540) and federal returns.

Don't Forget About Other Business Taxes

Beyond income and franchise taxes, your California LLC may be responsible for several other business-related taxes.

• Self-Employment Tax: As mentioned, members in default classification or members that manage their own company and are actively engaged in the LLC's business operations must pay federal self-employment tax. Owners of SMLLCs and MLLCs should plan on this and file timely with estimated tax payments.
• California Tax Withholding: Nonresidents of CA performing services in the state, regardless of their status for tax purposes, may have some CA source income withheld. This includes wages among other types of earnings. LLCs with no commercially domiciled address must withhold 7% of their payments or distributions of income to their domestic members. The withheld taxes must be remitted to FTB with Form 592-V, Voucher of Payment for Resident and Nonresident Withholding and filed timely with Form 592, Returns for Residents and Nonresidents Withholding Statement. Members should be provided with Resident and Nonresident Withheld Tax Statement showing withheld tax credits among other required information.
• Sales and Use Tax: If your business sells tangible personal property, it is usually subject to a sales tax and must register with the California Department of Tax and Fee Administration. California sales tax is one of the highest in the United States, which includes state and local district sales tax. The use tax is a compensating tax imposed on the consumer for tangible personal property.
• Payroll Taxes: If your LLC has hired employees in California and uses payroll services, you need to register with the Employment Development Department (EDD) to report and pay withheld taxes and employment taxes.

Final Thoughts

Navigating California's LLC tax system means balancing the state's flat franchise tax, a revenue-based LLC fee, and the standard pass-through of personal income tax. The decision to make an S-Corp election adds another layer, swapping the potentially large LLC fee for a net income tax. Understanding these interconnected pieces is fundamental to providing sound advice and ensuring compliance.

Keeping up with the nuances of state-specific guidelines, like California's multi-layered approach to LLC taxation, requires constant vigilance. This research can quickly consume valuable hours better spent on client strategy and advice. With a tool like Feather AI, you and your staff can ask plain questions in English and get direct, accurate, citation-supported answers from the IRS and state resources. When your next LLC questions arise, get ready and prepare the documents to provide accurate, concise information to your clients to help them grow.