New Franchisor Business Entity
Your franchise company will own and operate the franchise system (which may include, for example, performing franchise sales, franchise training and franchise support activities). Your franchise company can, but usually should not, operate individual company-owned units. You can use a separate business entity to own and operate your separate business outlets. These are often referred to as “affiliate-owned” operations. One reason for this is to help keep the potential liabilities of your franchise company separate from the potential liabilities of your affiliate-owned outlets. Also, creating a new franchisor business entity can also help you comply with the financial audit requirements described below.
You will talk to your tax advisor about the type of business entity that is right for you based on tax and accounting factors. Limited liability companies and corporations are common forms of business entities for franchise companies. Your tax advisor should help you make this determination and assist you with tax-related filings.
Federal and state franchise laws require franchisors to include audited financial statements for their past three fiscal years in their Franchise Disclosure Documents. However, as a new franchisor, if you create a new franchisor business entity (such as an LLC or corporation) then you only must include statements from the inception of your company. That is one important reason why we typically recommend creating a new franchisor company. Thereafter, you will need an auditor to create audited financial statements for your franchise company each year. Note that not all Certified Public Accountants are auditors (although all auditors are CPAs).
Creating a new franchisor company and keeping its operations separate from your affiliate-owned operations can also help streamline the audit process. If you were to use the same business entity to operate your franchise system and to operate your individual business outlets, then your auditor would audit all of the business transaction of your company-owned units each year, likely adding time and expense to the audit process.
Under the federal franchise law, new start-up franchisors may phase-in the use of audited statements and may instead use unaudited statements during the first fiscal year. However, many states require audited financial statements from the beginning. So, the type of financial statements required for you will depend upon the states in which you anticipate offering franchises in the foreseeable future. We will help you consider these factors.