Accounting and Tax Treatment of Franchise Fees

Understanding how your franchise fee works is an important part of getting the best from your career as a franchisee.

Being a franchisee gives you a much greater chance of making a success of your new business. You have support. You often get training. You have a strong brand name to trade under.

But when it comes to your accounting, a little background knowledge about your franchise tax account status will pay dividends all of its own. Here is everything you need to know:

How a Franchise System Works

If you are looking into franchise tax accounting treatment, you probably understand the basics of a franchise system.

But here is one thing that is very important to grasp. As far as the tax system and UK law are concerned, your business as a franchisee is separate from your franchisor’s business.

One of the ways this is shown is in how the tax system treats one key element of any franchise system – the royalty fee.

What Is the Royalty Fee in a Franchise System?

Sometimes simply referred to as the “franchise fee”, a royalty fee is the money that the franchisee pays to the franchisor. In return, the franchisee gets the ability to use their franchisor’s trademarks, branding, and highly effective processes.

For franchises like Fantastic Services, the fee also includes things like constant support, professional training so that you know everything you need to run your business, and the marketing expertise to find new clients every day.

There tend to be two different types of royalty fees in any franchise system:

1) Initial Fees

The initial fee payment usually has to be completed before a franchisee can begin to use their franchisor’s name and other trademarks. This fee counts as part of the initial costs of setting up your business.

As far as your franchise tax status is concerned, it is important to remember this – HMRC (Her Majesty’s Revenue and Customs – the UK tax body) treats this as different to the other common type of franchise royalty fee.

2) Ongoing Fees

After the initial franchise fee is paid and the franchisee starts trading, they usually have to pay an ongoing fee. This may be monthly, quarterly or annually. The ongoing fee covers things like the franchise’s fixed costs.

The level of this fee varies wildly between franchise systems. It is usually calculated as a percentage of gross sales. According to the British Franchise Association, a figure of 7-8% is roughly average. Some franchise systems also charge an additional marketing fee.

Franchise Accounting and Tax

The most important point here is that HMRC considers initial franchise fees and ongoing franchise fees to be two different things:

1. Initial franchise fees – effectively a kind of capital expenditure. This means they are not tax-deductible. Even if you end up paying your initial fees in several instalments or they include legal fees.
2. Ongoing franchise fees – according to HMRC, a kind of revenue expense rather than capital expenditure. This means they are tax-deductible.

Franchise Accounting Revenue Recognition

There are very few circumstances where any part of your initial franchise fee will be recognised as revenue expense rather than capital expenditure.

The only real exception to this rule is if your franchisor provides services which are specified in your Franchise Agreement document as being paid for by the initial fee.

Otherwise, no matter what might be covered by your initial franchise fee – your territory, vehicle, equipment, training, marketing – it is all almost certain to count as capital expenditure.

Amortisation of Franchise Fees for Tax Purposes

Amortisation is a technical term used in accounting. It means to gradually write off the initial cost of an asset over time.

There are several types of asset in accounting. A tangible asset – something like your vehicle or equipment – is subject to depreciation over time.

Think of it this way – you may pay for your van all at once. But the value you get from your van will last for many years. Depreciation allows you to earn revenue from your van while expensing part of its cost each year while you are using it.

An initial franchisee fee has been argued to be a kind of intangible asset. Amortisation is essentially the same as depreciation. But it is applied to an intangible asset like the strength of your franchise instead of a tangible one like your van.

Getting the Most From Your Franchise Fee

In a franchise system like that offered by Fantastic Services, your franchise fee gives you a whole lot of value.

You get all the training you need. Expert support standing by. You get to trade under a well-known brand name. Not to mention having a regular stream of clients found for you via our constant online marketing efforts.

Yet, no matter the system you eventually join, it is still important to understand accounting and tax treatment of your franchise fees if you want to make your next business a success.

Want to learn more about what you get from your Fantastic Services franchise fee? Let’s talk. There’s no commitment. Just all the information you need about how a Fantastic franchise helps you create a business which grows.

• Last update: October 15, 2021

Posted in Industry Insights