Income Taxes on Business Income in Minnesota

April 13, 2006

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In Minnesota, you're generally free to choose to operate your business as a C corporation, S corporation, partnership, limited liability company (LLC), or sole proprietorship. However, the entity type you select for your business may, in some cases, decide whether you or your business pays income taxes on the business income.

Corporations. Domestic corporations (corporations organized in Minnesota) and foreign corporations (corporations organized in a state other than Minnesota) are subject to a Minnesota income tax. The corporate income tax (also referred to as the Minnesota franchise tax) is computed at 9.8 percent of net income.

The corporate income tax also includes an additional tax in the following amounts:

Sum of Property, Payroll, and Sales or Receipts	Amount of Tax
Less than $500,000	$0
At least $500,000, but less than $1 million	$100
At least $1 million, but less than $5 million	$300
At least $5 million, but less than $10 million	$1,000
At least $10 million, but less than $20 million	$2,000
$20 million, or more	$5,000

S corporations. If you meet the federal tax law requirements to operate as an S corporation, the IRS allows your business to "pass through" its income to the shareholders. This means that your business will not pay any IRS corporate-level income tax. However, you'll have to claim your entire share of the business income on your personal federal income tax return even if you did not take any money out of the business.

In Minnesota, the law extends this favorable tax treatment to the state corporate income tax liability and S corporations will not be subject to the corporate income tax of 9.8 percent.

Partnerships. If you operate your business as a partnership, your partnership will not be taxed on its net income. Instead, partners must include in their Minnesota taxable adjusted gross income their distributive share of partnership income.

Warning

Although S corporations and partnerships are not subject to the state corporate income tax, they are subject to the additional tax described in the chart above for corporations, which is based on the sum of property, payroll, and sales or receipts. There is an exception to this rule for farming partnerships.

Limited liability companies (LLCs). Minnesota law recognizes businesses operating as limited liability companies (LLCs). Domestic and foreign LLCs in Minnesota are classified as either partnerships or corporations for Minnesota tax purposes. LLCs follow the federal rules on how they will be taxed. Accordingly, if your LLC is treated as a partnership then it will not be taxed on its net income, but will be subject to the additional tax in the chart above. Also, LLC members must include in their Minnesota taxable adjusted gross income their distributive share of LLC income.

If a business is classified as an association taxable as a corporation for federal income tax purposes, it will also be taxable as a corporation for Minnesota tax purposes.