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The franchise model of doing business streamlines the entrepreneurial process.
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Nelly Akalp
The franchise model of doing business streamlines the entrepreneurial process. Operating as a franchisee allows you to become a business owner with little to no upfront work to build your company’s infrastructure and systems from scratch.
However, even when a franchise location is associated with a larger brand, its owner still forms the business entity and is responsible for managing all operations and management at the location.
This article explains the nuances of starting and running a franchise entity.
Franchisee vs Franchisor: What’s the difference?
First, let’s clarify some of the terminology we refer to throughout this post.
- What is a franchisor? A franchisor is a business that sells the right to open stores or sell products or services to others using its brand, expertise and intellectual property.
- What is a franchisee? A franchisee is an individual or business entity licensed to operate a privately owned business (franchise) under an agreement with a franchisor.
For example, McDonald’s franchisor; McDonald’s owner in your town franchisee.
Franchise and business entity formation
Forming a legal business entity provides liability protection for business owners and may provide tax benefits. The basic purpose of setting up a franchisor entity is slightly different than why it is important to set up an entity in a franchise location.
franchisor entity
A franchisor forms an entity that sells to franchisees the rights to open and operate franchised locations using the franchisor’s brand, intellectual property and expertise. A franchisor is an independent legal accounting entity that protects its owners and principal business from the franchisee’s liabilities and liabilities.
Consider the following hypothetical example. Subway is a franchisor. Suppose someone wants to sue their business after slipping and falling on a wet floor at a franchisee’s location. Individuals will sue local franchise businesses and major franchise entities will be protected.
In many cases, franchisors choose a limited liability company structure for their business entity. Technically, a franchisor entity can be established in any state. However, franchisors are wise to discuss options with a lawyer or tax professional before making a decision.
Franchise corporation
A franchisee entity is an entity that a franchisee establishes when purchasing the right to operate a local franchise.Many franchisors require that the franchisee Franchise Disclosure Document (FDD) so paperwork can be done in the entity’s name. A franchise entity is typically an LLC. Many franchisors do not allow businesses to purchase franchises. This is because the issuance of shares has important legal and tax implications.
Franchisees are almost always required to register their business entity in the state where it is physically located, regardless of where the owner resides. The physical location of the franchise will require permits, licenses, lease agreements, etc., so you will need to register your business in that jurisdiction in order to obtain them.
Naming the franchise entity
Many franchisors create entities with names that imply their purpose for selling the franchise. For example, Your Company Franchising Inc. or Your Company Franchise Sales, Inc. This makes it easy to distinguish between entities.
For franchisees, establishing a DBA (fictitious name) allows them to use the franchise’s brand name for marketing purposes. However, the legal entity name cannot include the name of the franchise you are purchasing, as the franchisor has trademark rights to that entity name.
For example, a franchisee may avoid registering a legal entity as Smith Subway, LLC or Smith’s Burger King, instead establishing a DBA such as “Subway Store #1234” or “Burger King Woodland Hills.” Franchisors usually have a specific way in which the franchisee formats his DBA.
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What about multi-unit franchises?
A multi-unit franchise is the purchase of multiple stores by a single franchisee. Usually the franchisor wants each unit to be set up as its own legal entity with a separate her DBA and permits.
In some cases, franchisees can keep things simple by starting a parent company and having all the entities under it. However, this only works if the franchises are all owned by the same person.
Franchise Business Entity Requirements
In addition to contractual obligations to franchisors, franchisees must comply with federal, state, and local requirements when forming a business entity.
- File forming papers with the state to form an LLC or corporation.
- Get your EIN (Employer Identification Number).
- Submit a DBA (Doing Business) to establish a fictitious name for the franchise location.
- Create an LLC Operating Agreement (or Articles of Incorporation).
- Register for payroll and other employment-related taxes.
- Complete sales tax registration (not typically applicable to service-based franchises).
- Application for the necessary business licenses and permits to legally operate in the location.
become a franchisee
Interested in what it takes to get your franchise up and running? Here are some resources to help you assess feasibility and explore possibilities.
Starting a franchise business allows you to enter the world of entrepreneurship with built-in brand recognition and established systems and processes. However, it is not completely “plug and play”. Get the legal and accounting guidance you need and make sure it’s right for you.
About the author
Nellie Akalp is a passionate entrepreneur, business expert, professional speaker, author and mother of four.she is the founder and CEO of CorpNet.coma trusted resource and service provider for company formation, LLC filing, and corporate compliance services in all 50 states.