Top 5 Tax Issues for Franchisors to Think About When Going International

Franchisors always have their ears to the ground for new and exciting growth opportunities. For newer franchisors, these opportunities may be found stateside, whether they’re looking to expand within their home state or to explore new geographies and markets nationwide. However, for more mature franchisors, the saturation of U.S. markets and a strong appetite for U.S. brands overseas may make international expansion the more compelling—and profitable—option. With “health casual” restaurant chain Freshii recently inking a deal to bring 20 units to Saudi Arabia and international franchise giant McDonald’s seeking more aggressive expansion opportunities in China, it is clear that franchisors are seeing untapped opportunities abroad.

But franchisors looking to go international must keep in mind the extremely complex international tax environment, and take steps to ensure that they understand and adhere to varying regulations both at home and abroad. Last month, BDO attended the International Franchising Association’s 54th Annual Convention, where I participated in a roundtable discussion on cash flow issues for franchisors, specifically discussing some of the tax considerations for franchises looking to expand internationally.  Below, I outline the top five tax issues franchisors should be thinking about as they mull their international expansion plans. The answers to these questions could be essential to determining where you choose to set up shop abroad, as well as what your operations will look like:
  1. Does the target country have a trade agreement or treaty with the United States? The benefits of doing business in a country that has a formalized agreement with the United States can be significant, including a reduction in withholding rates and a higher threshold for creating a taxable presence based on the number of days and activities performed in the foreign country.
  2. How will the target country tax fees? Will the up-front franchise fee, renewal fees and recurring franchise royalties be subject to withholding in the target country? Every country has its own regulations on this matter, and it’s important for franchisors to understand the full scope of their potential tax liability in any new location they’re exploring.
  3. Will the U.S. Foreign Tax Credit offset taxes in the target country? The U.S. Foreign Tax Credit (FTC) exists to mitigate the impact of “double taxation”—being taxed by both the United States and the new country of operation—on the franchisor. The FTC should be available for any foreign withholding and income taxes paid; however, depending on your company’s specific tax profile and the target country, the FTC may be subject to limitations.
  4. What if I’m setting up a foreign sales office or controlled foreign operation? These types of operations require a specific set of tax considerations, including how to manage the repatriation of foreign earnings, complying with additional reporting and disclosure requirements on U.S. tax returns, determining whether there will be withholdings on dividends or interest, complying with foreign audits and tax regulations and determining how to structure the operation so as to avoid double taxation.
  5. How will I need to manage transfer pricing agreements to facilitate payments between international related parties? Transfer pricing documentation is typically needed to support the arm’s length nature of transactions and agreements with related parties, such as a foreign subsidiary.  It is also important that agreements be specific about the rights and responsibilities of all parties and that all country-specific documentation requirements remain top-of-mind. Each country has different expectations around reporting payments and providing supporting documentation, so be sure you understand in full what the law requires.
Taking your franchise international may be a complex operation, but with the right preparation and planning, it can be profitable, as well. Understanding your tax liabilities is an essential step in the process of identifying and executing the right expansion opportunity.