Understanding the Liability for GST by Franchisees

According to Wisewould Mahony franchise lawyers, an issue often raised and commonly misunderstood by franchisees relates to their GST liability in franchising agreements.  

There are different forms of franchise fees and royalties that may attract liability for GST. We often receive inquires from franchisees who believe they are being unfairly charged GST by their franchisors as they are not aware of the terms in the Franchise Agreement. 

What types of payments attract GST liability? 
Most payments made to the franchisor include a goods and services tax (GST) component if the franchisor is GST registered. These payments include:

• Initial franchise fee;
• Franchise service fees/royalties;
• Franchise renewal fees;
• Advertising fees; and 
• Training fees

Who is liable to pay the GST?
The liability to pay GST is determined by the franchise agreement. 

The payment of franchise fees and royalties are consideration for the provision or supply of services. Therefore unless the agreement states otherwise, the franchisor as supplier will be liable for the GST payable on those fees. 

A franchisee however can, under the Franchise Agreement, be liable to reimburse the franchisor for that GST liability.  In most cases there will be a GST recovery clause in the agreement with words to the effect “if any supply under this agreement is subject to GST, it will be the Franchisee that is liable to pay that GST”. 

This type of provision gives the franchisor the contractual right to recover its GST liability from the franchise.

In the absence of such a clause in the agreement the franchisor will be liable for the GST. 

Is GST payable on initial franchise fees?
GST is payable on franchise fees paid on or after 1 July 2000 unless the franchise services are exempt as a financial supply. 

The initial Franchise fee constitutes consideration for services to be provided by the franchisor to the franchisee over the term of the agreement. 

Most Franchise Agreements will include a contractual right to pass that liability on to the franchisees to reimburse the franchisor the GST liability.

Is GST payable on monthly royalties?
The franchise agreement will provide a licence to use the intellectual property trademark and/or brand name of the franchisor in consideration for which the franchisee pays a royalty for example on a monthly basis as a percentage of gross turnover on a fixed sum. 

The payment of royalties, whether based on turnover fixed fees or commission based, to a franchisor will give rise to a GST liability to the franchisor. 

Again, the Franchise Agreement will usually specify that the franchisee is obliged to pay the GST in addition to the royalty amount.

Does a franchisee need to register for GST purposes if it earns under $50,000?
Registration is optional for franchisees with an annual turnover of less than $50,000. It can still be useful to register as many businesses will only deal with a registered business so they can claim input tax credits.A franchisee that is not registered will not be entitled to a refund of input tax credits (see below) for GST they pay.