Corporate Taxes in Texas: A Guide to the Franchise Tax System

Texas stands apart from most American states by operating without a traditional corporate income tax. Instead, the Lone Star State employs a franchise tax—a gross receipts-based system that taxes businesses on their total revenue rather than net profit. This unique structure shapes how companies calculate their tax obligations and requires a different approach to tax planning than what businesses face in other jurisdictions.

The Franchise Tax: How It Replaces Corporate Income Tax

Texas joins a small group of states that have opted out of corporate income taxation entirely. Rather than taxing net earnings, the state’s approach centers on a margin-based franchise tax that applies to most business entities operating within its borders.

The Texas franchise tax applies to corporations, limited liability companies, partnerships, trusts, professional associations, and joint ventures. Sole proprietorships are generally exempt, as are single-member LLCs in certain circumstances. The most significant exemption threshold protects businesses with gross receipts below $2.47 million as of 2025, allowing smaller enterprises to avoid this tax burden altogether.

What makes this system distinctive is the flexibility businesses enjoy in calculating taxable margins. Companies can choose from three calculation methods: total revenue minus cost of goods sold, total revenue minus compensation expenses, or total revenue multiplied by 70%. By law, entities select whichever method produces the lowest tax liability, creating a built-in optimization opportunity that savvy business owners leverage during tax planning.

Tax Rate Structure and Calculation Methods

The franchise tax rate depends on business classification and revenue levels. Wholesale and retail operations face a 0.375% rate, while all other business types pay 0.75%. To illustrate: a retailer generating $5 million in revenue would owe approximately $18,750 annually, assuming the standard rate application and favorable margin calculations.

The system’s dual-rate structure reflects policy decisions about which business types to incentivize. By maintaining lower rates for businesses involved in distribution and retail, Texas encourages supply chain operations and consumer-facing commerce within state borders.

Beyond the franchise tax, companies must navigate additional state levies. The sales tax in Texas stands at 6.25% statewide, though local jurisdictions can add supplementary taxes, pushing combined rates to 8.25% in certain areas. Property taxes also represent a significant consideration—Texas maintains one of the nation’s highest average property tax rates, which disproportionately affects capital-intensive industries.

Strategic Advantages of Texas’s Tax Environment

The absence of state corporate income tax creates substantial financial advantages for reinvestment. Companies retain earnings that would otherwise flow to state revenue agencies, allowing capital to fuel expansion, research and development, or shareholder returns. This advantage proves particularly compelling for capital-intensive sectors and rapidly growing startups.

Texas complements its tax structure with economic development programs. The Texas Enterprise Fund provides financial incentives to companies creating jobs, while the Skills Development Fund grants resources for workforce training. These programs, combined with favorable tax treatment, position Texas as an attractive location for business relocation and expansion.

Compliance and Planning Considerations

The franchise tax’s margin-based structure demands accurate accounting and careful margin selection. Businesses must maintain detailed records of revenue and applicable deductions to support their chosen calculation method. An error in margin determination can result in underpayment penalties or unnecessary overpayment, making precision essential.

Understanding which products and services bear sales tax obligations is equally critical. While most goods and selected services face taxation, certain categories enjoy exemptions. Companies must track transactions methodically to remit the correct amounts to state and local authorities.

Despite Texas’s reputation as a low-tax state, the combined effect of franchise taxes, elevated sales tax rates, and substantial property taxes means businesses ultimately contribute significantly to state revenues. This reality is especially pronounced for operations with high capital requirements or substantial property holdings.

Conclusion

Corporate taxes in Texas differ fundamentally from the traditional income tax model employed nationwide. The franchise tax system, based on margins rather than profits, creates opportunities for strategic tax management while requiring careful compliance. For companies considering Texas operations, understanding this distinctive tax framework is essential to accurate financial projections and effective long-term planning. The interplay between favorable income tax policies and elevated sales and property taxes means each business must evaluate Texas’s overall tax burden within its specific operational context.