If you are thinking of purchasing a franchise, it is imperative that you be protected and that you fully understand your rights and obligations prior to getting started. Although there are many perks to entering into a franchise, there are also heavy restrictions and hidden pitfalls.
Before purchasing a franchise, it is important to be properly advised about:
• Business structure;
• Non-competition agreements and obligations;
• Restrictions on business activities;
• Availability of capital;
• Borrowing ability;
• Franchise fees;
• Taxes, and legislative responsibilities;
• Use of trademarks and the franchisor’s business system;
• Degree of control the franchisor may exercise; and
• Length of time the franchise is granted for.
Doing your due diligence and speaking with a knowledgeable lawyer at Barrett Tax Law prior to purchasing a franchise may save you from entering into an agreement that you didn’t bargain for.
And remember, once the franchise agreement is signed, it is too late to negotiate. It is always in your best interest to avoid a problem by being proactive and getting the advice of an experienced lawyer.
Pros and Cons of owning a franchise
Although there are many perks to entering into a franchise, such as the ability to rapidly expand business and benefitting from the trade-marks, marketing methods, good-will, and reputation of the franchisor or its products, there are also heavy restrictions. The franchisee should be aware, prior to entering into the new business, the extent of such restrictions with respect to the franchisor’s compensation (for using trademarks and the franchisor’s business system, etc.), non-compete obligations, the degree of control the franchisor will exercise, and the length of time the franchise is granted for. Many of these restrictions should not be overlooked and can be negotiated by a lawyer.
A contractual relationship is formed when executing a franchise agreement, binding the parties to the terms of the agreement.
Fixing the contractual restrictions after the contract has been formed may be tricky and sometimes even impossible. For instance, one may argue that such restrictions are a restraint of trade, however, such challenges are not always successful and are determined on a case-by-case basis. It is always in your best interest to avoid a problem by being proactive and getting the advice of an experienced lawyer.
How are you protected as a purchaser?
Franchise Disclosure Legislation has put certain means to protect franchisees in Ontario. The Arthur Wishart Act (the “AWA”) places a mandatory disclosure obligation on the franchisor to provide to the prospective franchisee a clear and concise disclosure document, prior to making an investment in the franchise. This disclosure document is a certified means for the potential franchisee to receive important and accurate information pertaining to the franchise, franchisor, and related parties.
The AWA also creates a duty of fair dealing, whereby each party is obligated to act in accordance with reasonable commercial standards and act in good faith.
Tax Implications Surrounding Franchise Ownership
Barrett Tax Law can also help you plan for the tax consequences by helping you create a business vehicle that is optimal for your situation. The tax consequences of being involved in a franchise vary depending upon your chosen business structure. For instance, the tax treatment for a corporation is different to that of a sole proprietorship or partnership. The structure of your business should benefit you and should be properly designed to suit your legal and tax interests.
Something to consider is that all franchisees are considered to be independent contractors. Amongst other tax and legal consequences, this means that the tax obligations of the franchisee do not belong to the franchise.
Other tax rules are also relevant to the franchisee, depending on the time period that the franchise is granted for. If the franchise has a useful life, whereby the rights to the franchise are limited to a specific period, Capital Cost Allowance rules would kick-in to expense the cost of the property.
When a Canadian enters into a franchise agreement with a U.S.- based franchise, other considerations come into play, including withholding tax that must be remitted by the Canadian franchisee. For those who don’t understand the nature of withholding taxes and foreign tax credits, this may mean paying more than bargained for. A qualified tax specialist is a must in such a scenario.
If you have or are considering entering into a franchise agreement, please contact us today to discuss your tax and legal implications.