Tax Issues in Franchising

AuthorFrank Zaid
ProfessionSenior Partner Osler, Hoskin & Harcourt LLP
Beginning w ith the purchase of a franchi se and lasting until or even be-
yond its sale, franchisors and franchisee s are faced with important tax
considerations and chal lenges. This chapter will examine s ome of these
issues, with a particular focus on Canadian income tax, the Canada-
U.S. Tax Convention (U.S. Tax Treaty),1 and Canadian s ales taxes.2
1) Resident Franchisee
a) Initial Franchise Fee
i) Capital or Income Account
The initial lump-sum franchise fee is not deductible by the f ranchisee
if, as is generally the case, the fee is on capita l account.3 Capital cost
1 (1980), 91 T.N.I. 29-34; Doc. 93-31275; T.I.A.S. 11087; S. Exec. T., 96-2.
2 All ba sed upon the law as of 1 October 20 04, without consideration of amend-
ments not in force on th at date.
3Smitty’s Pancake Houses Ltd.v. M.N. R. (1965), 65 D.T.C. 667 (T.A.B.) [Smitty’s].
Tax Issues in Franchising 251
allowance will be avai lable for such a fee, however, as long as the fran-
chise is propert y described in Class 14 of Schedule II to the Regulations
of the Income Tax Act (Canada). Subject to certain exceptions, Class 14
property includes patents, franchi ses,4 concessions, licences, etc., but
does not include the securing of non-competition.5
Capital cost allowance is only available for property that w ill exist
for only a limited period of time.6 The property, even if terminable,
does not qualify if its initial term i s for an indef‌inite period.7 Property
having a term of a specif‌ied length, but termin able on notice without
cause, may also be disqualif‌ied,8 although recent commentary suggest s
a contrary result.9
If the term is renewable automatically or renewal i s within control
of the franchisee, t he life of the franchise includes renewal period s.10 If
the term may not be extended without concurrence of the franchisor,
the life of the franchi se will not include the renewal per iod.11 For ex-
ample, an initial franchise fee payable for a franchise for a f‌ixed f‌ive-
year term, with no renewa ls, will be depreciable on a straight-line basis
for f‌ive years. However, if the agreement provides for a renewal for
another f‌ive years at the option of the fr anchisee, wit hout conditions
determined by the franch isor, the fee will be depreciable by the fran-
chisee on a ten-year stra ight-line basis.
4 In inter preting the Regulat ions, one must give “franchi se” its ordinary mea n-
ing: The Investors Group v. M.N.R., [1965] C.T.C. 192 (Ex. Ct.).
5No. 481 v. M.N.R. (1957), 58 D.T.C. 41 (T.A.B.); No. 614 v. M.N.R. (1959), 59
D.T.C. 238 (T.A.B.).
6 A limit ed period has been def‌ine d as “for a period capable of being a scertained”
at the time the f ranchise agreement i s entered into: Bowater Power Company
Limited v. M.N.R. (1971), 71 D.T.C. 5469 (F.C.T.D.) [Bowater]. See als o IT-477 at
para. 14. “IT” is the abbrev iation for an Interpretation Bul letin, which is a pub-
lication use d to outline the Canada Reve nue Agency’s administr ative position
pertain ing to the interpretation of pr ovisions of the ITA.
7Bomag (Canada) Limited v. Canada, [1984] C.T.C. 378 (F.C.A.).
8Plouff e v. M.N.R., [1964] C.T.C. 580 (Ex. Ct.) [Plouffe].
9 IT-477, at para. 17, states th at some provisions relatin g to early termination
are not relevant in dete rmining whether the f ranchise is for a limited p eriod.
The reasoning i n IT-477 is preferre d to that in Plouffe,ibid . The judge in Plouff e
may have mis interpreted earlier juri sprudence, which stood for the proposit ion
that an agre ement of indef‌inite duration, but contain ing a cancellation claus e,
was not for a limited p eriod. It is arguable that a n agreement instead, of def‌inite
duration, but conta ining a cancellation or te rmination clause, cou ld be viewed
as havin g a limited period.
10 Crystal Spr ing Beverage Co. Ltd. v. M.N.R ., [1964] C.T.C. 408 (Ex. Ct.); IT-477 at
para. 15.
11 Bowater, above note 7; IT-477 at para. 15.

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