LLC Taxes In The State of Alabama
Most states have laws that regulate how different types of businesses are taxed. As a rule, the details of how a specific business is taxed vary depending on the legal form or structure of the business entity. In most states, large business enterprises or corporations are required to pay corporate income tax, while other entities like sole proprietorships, partnerships, Alabama limited liability companies (LLCs), and S corporations are required to pay tax on personal income. Tax rates for both personal income and corporate income vary widely among states. Personal rates can range anywhere from 0% (for low-income earners) to about 9% or more in particular states. Corporate rates, which are generally flat no matter the amount of income, generally range from 4% to 10%.
Currently, 6 states – Wyoming, Washington, Texas, South Dakota, Ohio, and Nevada – do not impose a corporate income tax on large businesses. However, 4 of those states – Washington, Texas, Ohio, and Nevada – do impose some form of gross receipts tax on large businesses. On top of this, 5 of those states – Wyoming, Washington, Texas, South Dakota, and Nevada – as well as Florida and Alaska currently do not impose a personal income tax. Residents of Tennessee and New Hampshire are only taxed on dividends and interest income.
Apart from taxing businesses via personal income tax or corporate income tax, many states have a special tax for certain businesses. This tax is often referred to as privilege tax or franchise tax. Businesses are taxed for the “privilege’ of being allowed to conduct business within the state. Just like taxes on business income, the details of a state’s privilege tax vary depending on the legal structure or form of a business. Privilege taxes can either be a flat fee or an amount calculated based on a business’s net worth.
Alabama imposes both corporate income tax and business franchise tax. Your business may be required to pay both, one, or neither of these taxes based on its legal structure. Moreover, if income from your business is deposited into your personal financial accounts, the income will be subject to personal income tax.
The business franchise tax is calculated based on the net worth of your enterprise. The tax rate is based on how much income your business generates and ranges from $.25 per $1000 to $1.75 per $1000 of your business’s net worth. Here is a detailed breakdown:
* Taxable income less than $1.00 = tax rate of $.25 per $1,000 of net worth
* Taxable income of at least $1.00 but less than $200,000 = tax rate of $1.00 per $1,000 of net worth
* Taxable income of at least $200,000 but less than $500,000 = tax rate of $1.25 per $1,000 of net worth
* Taxable income of at least $500,000 but less than $2.5 million = tax rate of $1.50 per $1,000 of net worth; and
* Taxable income of at least $2.5 million and above = tax rate of $1.75 per $1,000 of net worth.
The business franchise tax applies to businesses that have a structure that limits individual liability such as limited liability partnerships, LLCs, S corporations, and traditional corporations. These businesses are required to pay a minimum franchise tax of $100 regardless of their net worth. For many businesses, the franchise tax is usually due 2 ½ months after the completion of the final year. So, if your business’s financial year resembles the calendar year, your business’s franchise tax will be due on 15th March. But, for corporations with a financial year that ends on a date other than 30th June, the tax will be deemed due 3 ½ months after the completion of the financial year. Generally, business franchise tax returns are due at the same period that a business’s federal tax returns are usually due. In most cases, Alabama’s corporate income tax is charged at a flat rate of 6.5% of business income.
Below is a short description of the tax obligations of 5 of the most common types of businesses in Alabama: sole proprietorships, partnerships, S corporations, and C corporations (corporations).
Corporations (C Corporations)
Corporations in Alabama are required to pay a corporate income tax at a flat rate of 6.5% of business income as well as a business franchise tax.
For Example: If your corporation generated an income of $100,000 and your business’s net worth is also $100,000, you are required to pay a corporate income tax of 6.5% of $100,000 which is $6,500. You will also be required to pay a business franchise tax of $100 ($1.00 per $1,000 of net worth).
An S corporation in Alabama is formed by first establishing a conventional corporation, and then submitting a special request to the IRS to get ‘S’ status. Unlike a conventional corporation, an S corporation is not required to pay separate federal income tax. Income from an S corporation goes through shareholders and then each shareholder is required to pay federal income tax on their share of income. Put simply, S corporations are pass-through entities. (An individual’s share of the S corporation’s income does not have to be awarded to the shareholder in order for them to owe the federal government tax.)
With that said, the state of Alabama does not require S corporations to pay income tax to the state. However, individual shareholders will be required to pay state tax on their individual share of the corporation’s net income. Additionally, because S corporations are limited liability entities, they are also required to pay the state’s business franchise tax.
Limited Liability Companies (LLCs)
As with S corporations, LLCs are considered pass-through entities and are therefore not subject to state or federal income tax obligations. Instead, income made by LLCs is divided among the relevant parties, who are then required to pay state and federal taxes on the individual shares they get. Although LLC is not subject to corporate income tax, they are still subject to the state’s business franchise tax.
Note, although LLCs are usually viewed as partnerships for tax reasons, it is possible to have your LLCs classified as a corporation. In such a case, your LLC will be required to pay a corporate income tax of 6.5% on net income.
Partnerships are also not viewed as corporations; additionally; regular partnerships offer no limits on the liability of the partners. With that said, partnerships in Alabama are neither required to pay business franchise tax nor corporate income tax. Instead, your business income goes directly to the individual partners, who then pay tax based on the individual share they get in form of state and federal tax returns.
However, limited partnerships (LPs) and limited liability partnerships (LLPs) offer some limits regarding the liability of partners; therefore, LPs and LLPs are required to pay a business franchise tax.
As with regular partnerships, sole proprietorships are not considered corporations and therefore offer no limits on the liability of the owner of the business. With that said, sole proprietorships in Alabama are neither required to pay business franchise tax nor corporate income tax. Instead, your business income goes directly to you as the owner, and you are required to pay tax on that income as state tax and individual federal tax returns.
Note on Nexus and Multi-State Business Enterprises
We have only described businesses that operate strictly within the state of Alabama. However, if your business operates in more than one state, you should know that your business may have a nexus with other states, and may therefore be required to pay taxes in those states as well. Additionally, if your business is based or was incorporated in another state, it may still be subject to Alabama taxes if it generates income from the state.
The tax guidelines for multi-state businesses can be quite complicated. Not many people have the legal knowledge and experience to properly navigate the different tax laws that are imposed by various states across the country. If you run or own such an enterprise, it’s highly recommended that you talk to a professional tax consultant to establish your actual tax obligations.