California Agency (Again) Rules that State’s Factor Nexus Thresholds Are not a Safe Harbor for Franchise Taxes

Like most states, California imposes a franchise tax on companies that choose to do business within its borders. Corporations and LLCs “doing business” in California are liable for at least an $800 annual minimum tax and potential income-based taxes at rates up to 10.84%.

California Revenue & Taxation Code section 23101(a) says that “doing business means actively engaging in any transaction for the purpose of financial or pecuniary gain or profit.” Hence, a corporation or LLC that solicits and receives $1 in revenue from a customer in California (and thereby meets the “any transaction” requirement) may be “doing business” in the state and thus be liable for the $800 minimum tax.

In 2009, the California Legislature added section 23101(b) to its tax code, which provides that a taxpayer is “doing business” in California if:

• It is organized or commercially domiciled in California,
• It has California sales exceeding the lesser of $500,000 or 25% of its total sales, or
• Either its property or payroll in the state exceeds the lesser of $50,000 or 25% of the taxpayer’s total property or payroll.

The $500,000 sales and $25,000 property and payroll thresholds are indexed for inflation each year, and for 2025, the thresholds were $757,070 and $75,707, respectively.

For the past two decades businesses and their tax advisors have viewed section 23101(b) as a “safe harbor,” believing that if a business not formed in or headquartered in California limits its activities in the state to amounts less than those statutory threshold amounts, they are not deemed to be “doing business” in California and are not subject to its franchise tax.

According to a recent decision by the California Office of Tax Appeals^[1] (OTA), that belief is mistaken.

The Impact of Matter of the Appeal of Diet Standards LLC

In Matter of the Appeal of Diet Standards LLC (OTA Case #230613542, Oct. 7, 2025), the business, Diet Standards, LLC, sold dietary supplements to customers in California through Fulfillment by Amazon (FBA). Diet Standards was headquartered in Florida and had no operations in California. However, its products sold through FBA were stored in Amazon warehouses in California, thus providing it with some physical nexus within the state.

The Franchise Tax Board (California’s version of the IRS) learned that Diet Standards was maintaining inventory there and assessed the $800 minimum tax, along with applicable penalties and interest. Diet Standards paid the assessment and requested a refund, clearly demonstrating that its CA sales and inventory for the year in question were significantly below section 23101(b)’s threshold amounts for that year, so it was not “doing business” in California and was not liable for the franchise tax.

The OTA ruled against Diet Standards and upheld the assessment of tax, penalties, and interest imposed against it. Their decision indicates that sections 23101(a) and 23101(b) operate independently from one another. Consequently, a business that “actively engages in any transaction for the purpose of financial or pecuniary gain or profit” in California is liable for California franchise tax, even if the business’s sales, property, and payroll in California fall significantly short of the thresholds laid out in section 23101(b).

In its decision against Diet Standards, the OTA referenced its previous decision in GEF Operating, Inc. (2020-OTA-045P (May 9, 2019)) in which it explained that section 23101(b) was enacted by the California legislature not as a narrowing of the definition of doing business but as an expansion of it. According to the OTA, if the legislature had intended to enact section 23101(b) as a safe harbor, it could have written the statute to that effect, but it did not.

In the GEF case, it was not entirely certain if the taxpayer’s sales, property, or payroll were below the factor nexus standards, as GEF was a partner in several partnerships with some presence in California. The OTA ruled that it didn’t matter; all that mattered was that GEF was doing business in California as defined in section 23101(a). In the Diet Standards case, however, the taxpayer clearly demonstrated that its sales in California were less than $14K, well below the applicable sales factor threshold, and that its in-state inventory was minimal. Again, though, the OTA ruled that section 23101(b)’s factor nexus thresholds are not a safe harbor.

Consequently, businesses outside of California that are selling any property or services to customers in California, who have employees working in California, or who own property in California, should be aware that even if their sales, payroll, or property in that state are well below the factor nexus thresholds, they can still be held liable for California franchise tax.

Businesses that only solicit sales of goods to customers in California may still be protected from the state’s income-based tax under federal law (PL 86-272), but would still be liable for the $800 minimum tax. Also, the “doing business” threshold in section 23101(a) does not apply for California sales tax purposes. For sales tax, a business must have either a physical presence in California or sales exceeding $500,000 in the current or previous year.

If you are concerned about your business’s presence in California and whether or not you are liable for taxes in that state or other states, please reach out to a CBIZ SALT team member.