When does a homeowners association qualify for the Texas franchise tax exemption - and does it qualify while the developer still controls the votes?

Plain-English summary

A homeowners association applied for a Texas franchise tax exemption. The Comptroller said it does not qualify at this time because the developer still controls the votes.

• The requirement. Texas Tax Code Sec. 171.082 lets a homeowners, residential property owners, or residential condominium association be exempt from the franchise tax, but only if - among other requirements - voting control is vested in the owners of the individual lots or residential units. It cannot be vested in a developer, declarant, bank, investor, an individual, or other party.
• Why this association fell short. The development has 186 lots. Class A members get one vote per lot; the Class B member (the Developers) gets three votes per lot and currently owns 76 lots. The declaration converts Class B to Class A at the earlier of (i) when Class A votes equal Class B votes, or (ii) January 1, 2010. For scenario (i), the Developers could own only 46 lots - so with 76 lots and triple votes, they still held voting control, and the association did not qualify.
• What to submit once control shifts. When voting control is vested in the individual owners, the association should send a list of all owners, the date each acquired their lot or unit, and the date the resident owners gained voting control.
• An alternative path to exemption. An association that instead obtains a federal 501(c) exemption can qualify that way: Sec. 171.063 grants a franchise tax exemption to a corporation holding an IRS exemption under 501(c)(2), (3), (4), (5), (6), (7), (8), (10), (16), (19), or (25), and Sec. 151.310 grants a sales and use tax exemption for 501(c)(3), (4), (8), (10), or (19) organizations. In that case the only documentation needed is the IRS determination letter.
• Meanwhile, keep filing. Until notified it is exempt, the association remains responsible for filing franchise tax reports and paying any amount due.

Currency note: This applies the pre-2008 franchise tax, replaced by the current margin tax (House Bills 3 and 3928) effective January 1, 2008. The homeowners-association exemption continues under current law, but confirm its present terms.

What this means for you

Homeowners and property owners associations

The franchise tax exemption is not automatic just because you are an HOA - it hinges on who controls the votes. While a developer or declarant holds voting control (often through weighted "Class B" votes), the association is not exempt and must keep filing and paying. Track the declaration's conversion trigger; once the individual owners gain control, gather the ownership and control-date records the Comptroller asks for and apply.

Boards transitioning from developer control

Watch both triggers in your declaration - the vote-parity milestone and any fixed calendar date. The exemption follows the shift in control, so document exactly when owner control began.

Accountants advising community associations

If the association already holds (or can obtain) a federal 501(c) exemption, that is a cleaner route - Sec. 171.063 (franchise) and Sec. 151.310 (sales tax) let you qualify on the IRS determination letter alone, without proving the voting-control facts.

Common questions

Q: Is a homeowners association automatically exempt from Texas franchise tax?
A: No. Under Sec. 171.082 it must, among other things, have voting control vested in the individual lot or unit owners - not the developer.

Q: Why didn't this association qualify?
A: The developer held Class B votes (three per lot) and owned 76 of 186 lots, so it still controlled the votes.

Q: Is there another way to qualify?
A: Yes. An association with a federal 501(c) exemption can qualify under Sec. 171.063 (franchise tax) and Sec. 151.310 (sales tax) by submitting its IRS determination letter.

Citations and references

Statutes:

• Texas Tax Code Sec. 171.082 - franchise tax exemption for a homeowners/residential property owners/residential condominium association; voting control must be vested in the individual lot or unit owners
• Texas Tax Code Sec. 171.063 - franchise tax exemption for a corporation holding an IRS 501(c) exemption (subsections (2),(3),(4),(5),(6),(7),(8),(10),(16),(19),(25))
• Texas Tax Code Sec. 151.310 - sales and use tax exemption for a qualifying IRS 501(c)(3),(4),(8),(10),(19) organization

Source

• STAR search: https://star.comptroller.texas.gov/search?doc_type_code=L&tax_type_code=FIT
• Opinion: https://star.comptroller.texas.gov/view/200209460L

Original ruling text

September 25, 2002

Dear **:

Thank you for your request for franchise tax exemption for HOMEOWNERS
ASSOCIATION, Taxpayer Number **. At this time, the corporation
does not qualify for franchise tax exemption.

Tax Code Section 171.082 outlines the requirements for a franchise tax
exemption for homeowners, residential property owners, and residential
condominium associations. Among other requirements, the voting control of the
organization must be vested in the owners of individual lots, or residential
units. The voting control cannot be vested in a developer, declarant, bank,
investor, an individual, or other party.

As documentation to support your request for exemption, you provided copies of
the file stamped articles of incorporation, bylaws, declaration, plat of the
residential real estate development (186 lots), and the total number of lots or
units within the development with a list of all owners (186). The declaration
entitles Class A Members to one vote for each lot owned, and it entitles the
Class B Member (Developers) to three votes for each lot owned. The list shows
Developers currently own 76 lots. For the Class B ownership to convert to
Class A membership, the declaration requires that the earlier of one of the two
following events must occur: "(i) When the total votes outstanding in Class A
Membership equal the total votes outstanding in Class B Membership, or (ii) on
January 1, 2010." Therefore, for (i) to apply, Developers can own only 46
lots.

When the voting control of the organization is vested in the owners of
individual lots, or residential units, send the following information:

• A list of all owners;

• The date each acquired their lot or unit; and

• The date the individual resident owners gained voting control.

As you may know, Section 171.063 of the Tax Code provides for a franchise tax
exemption to a corporation that has applied and obtained a federal exemption
under Section 501(c)(2), (3), (4), (5), (6), (7), (8), (10), (16), (19), or
(25) of the Internal

Revenue Code (IRC). Also, Tax Code Section 151.310 allows for an exemption to
an organization that has qualified under IRC Section 501(c)(3), (4), (8), (10),
or (19). If the corporation has applied and obtained a federal exemption under
one of these IRC sections, the only documentation you need to provide our
office is a copy of the Internal Revenue Service (IRS) determination letter.
For information on how to apply for a federal exemption, call the IRS at
1-877-829-5500 or 1-800-829-3676 to get the application forms.

Send the additional information along with a copy of this letter to the Exempt
Organizations Section, Post Office Box 13528, Austin, Texas 78711-3528. Until
you are notified the corporation is exempt from the franchise tax, you are
responsible for filing the appropriate franchise tax reports and paying the
amount due. For questions about the franchise tax filing requirements, please
contact our Tax Assistance Section at 1-800-252-1381, or directly at
512/463-4600.

If you have any questions, you may e-mail us at or
call me toll free at 1-800-531-5441, extension 5-9704. My Austin number is
512/305-9704.

Sincerely,

Janice Womack
Exempt Organizations Section