Tax Type
BPOL Tax
Description
Franchisor subject to tax
Topic
Local Power to Tax
Date Issued
10-07-1998
October 7, 1998
Re: Request for Advisory Opinion: BPOL
Dear-***********:
This will respond to your letter of October 7, 1997, in which you ask for an opinion regarding the local license tax (BPOL) liability of a franchisor located in your locality. I apologize for the delay in my response.
The license tax is a local tax that is imposed and administered by local officials. The Code of Virginia limits the involvement of the Department of Taxation to promulgating guidelines and issuing advisory opinions. However, the department is not required to interpret any local ordinance.
While addressing the questions raised in your letter, this response is intended to provide advisory guidance only and does not constitute a formal or binding ruling.
FACTS
************************ ("Franchisor") is the franchisor for about 13 *********stores ("Franchisees") throughout the East Coast. The Franchisor is located in -*********("Locality") and has no other satellite offices. Only one of the Franchisees is located in Virginia, however, not within the Locality.
The consideration paid by a Franchisee in a typical franchise agreement includes an initial fee plus a Continuing Services and Royalty Fee equal to five percent of the Franchisee's weekly gross receipts. The Continuing Services and Royalty Fee is paid by the Franchisee so long as the franchise agreement is in effect.
You ask whether it is lawful for the Locality to impose a BPOL tax on the gross receipts of the Franchisor. You state that some, if not all, of the Franchisor's functions are performed at the Franchisor's office in your Locality. Therefore, you conclude it is lawful to assess a license tax on the Franchisor's gross receipts, which are received in the form of the initial fee and the Continuing Services and Royalty Fee.
The Franchisor, through its representative, argues that it is unlawful to assess the Franchisor with a BPOL tax because the Franchisor's activities are not that of a business; rather, the Franchisor receives fees for letting others use its trademarks and not for undertaking activities which are characteristic of conducting a business. Even assuming it is engaged in a business, the Franchisor argues that the Locality's ordinances do not empower the Locality to assess a BPOL tax on the business of collecting franchise fees. Finally, the Franchisor states that even if it meets the definition of a business, its gross receipts relate to services performed principally outside of Virginia, and to tax these gross receipts would be a violation of the Interstate Commerce Clause of the United States Constitution.
These arguments are taken up below.
OPINION
Subject to limits set forth in Code of Virginia § 58.1-3703 C, localities may charge a fee for issuing BPOL licenses or may levy a license tax on a business for the privilege of engaging in business at a definite place within the locality. Code of Virginia §§ 58.1--3700 and 58.1-3703 A (copies enclosed). Business means "a course of dealing which requires the time, attention and labor of the person so engaged for the purpose of earning a livelihood or profit. It implies a continuous and regular course of dealing, rather than an irregular or isolated transaction" Code of Virginia § 58.1-3700.1 (copy enclosed). A definite place of business means "an office or a location at which occurs a regular and continuous course of dealing where one holds one's self out or avails one's self to the public for thirty consecutive days or more, exclusive of holidays and weekends." 1997 BPOL Guidelines, page 4 (copy enclosed).
The measure of the BPOL tax, in most cases, is gross receipts. A locality may only tax those gross receipts sourced or attributed to a definite place of business within its borders. The statutory rules for attributing or sourcing gross receipts applicable in this case are found in Code of Virginia § 58.1-3703.1.
The Franchisor is Engaged in Business
The Franchisor states that the initial fee and the Continuing Services and Royalty Fee are "primarily paid for the use of the [Franchisor's] name, products, signs, architecture and other similar rights. The services provided by [the Franchisor] are purely incidental to providing these rights to the franchisees." The Franchisor believes that since the fees it receives are virtually all paid for the right to use intellectual property, the receipt of fees by the Franchisor for use of its intellectual property should not be subject to the Locality's BPOL tax. The Franchisor's argument is best summed up as that the act of receiving franchise fees is not enough to meet the technical definition of a business upon which the BPOL tax is imposed.
Virginia localities are not prohibited from imposing the BPOL tax upon franchisors. Code of Virginia § 58.1-3700 et seq. Therefore, if the Franchisor undertakes a regular and continuous course of dealing for the purpose of earning a livelihood or profit, then the Franchisor is engaged in business.
Since there can be no dispute that the Franchisor earns a living or profit in selling franchises, the only question is whether the Franchisor undertakes a regular and continuous course of dealing. The typical fifty-eight page franchise agreement sets forth the Franchisor's and Franchisee's rights and responsibilities under the agreement. Under these agreements, the Franchisor's responsibilities may or do include using reasonable efforts to help analyze the Franchisee's market area as part of an effort to help determine site feasibility; assisting in the design of the franchised location; approving, in writing, the location at which the franchise is to be built; providing specifications to the Franchisee for brands and types of food, equipment, and fixtures, and for store operating procedures; providing training and assistance to the owners of the franchise, as well as to the Franchisee's designated manager plus an additional employee; directing all advertising and promotional campaigns; developing and expanding a proprietary line of food products; and providing overall operations assistance.
It is evident that only through a regular and continuous course of dealing is the Franchisor able to fulfill its contractual obligations. In my opinion, the Franchisor is clearly engaged in business, and it is only rational that some of the Franchisor's business activities take place in the Locality, as it has no other offices elsewhere. The amount of business activity that takes place in the Locality and at the Franchisee locations is in dispute (however, there is no dispute that the Franchisor maintains an office or a location in the Locality, i.e., it maintains a definite place of business in the Locality).
The Locality's Tax Ordinances Must Cover the Franchisor's Business
Sections § 58.1-3700 et seq. of the Code of Virginia set the parameters and structure of the BPOL tax. Because a locality's power to tax is derived from the Code of Virginia and its local ordinances, whether a particular privilege is in fact licensed also depends upon the local ordinance. 1997 BPOL Guidelines, Page 24 (copy enclosed).
The Locality believes that the proper business classification for the Franchisor is that of a services business. Its tax ordinances list approximately one hundred different types of service businesses upon which the BPOL tax is imposed. The Franchisor describes its business as not that of a services business, but as the business of "collecting franchise fees". As a result, the Franchisor believes its particular business was never intended to be included within, nor is it included within the descriptive or designating language of, any of the Locality's taxable classes of service businesses. County of Henrico v. Management Recruiters of Richmond, Inc., And Dunhill of Greater Richmond. Inc., 221 Va. 1004, 1010 (1981) (copy enclosed).
It is clear that the Franchisor's business goes well beyond the collection of franchise fees (See the description of the Franchisor's activities on Page 3). The Franchisor provides specifications and its professional expertise, and ultimately approval, over almost every operational aspect of a Franchisee. Indeed, the franchise system is structured by the Franchisor to ensure the best possible chance of success for each individual Franchisee. Based upon the Franchisor's oversight of and involvement in the day-to-day operations of a Franchisee, it is my opinion that the Franchisor renders services to its Franchisees.
Whether or not the Franchisor's particular services business is included within the descriptive or designating language of any of the Locality's taxable classes of service businesses is a question that must be answered at the local level. The department is not required to interpret local ordinances. This includes interpreting whether or not a particular business has been sufficiently described or designated as a taxable business in a locality's ordinances. 1997 BPOL Guidelines, pages 85-86 (copy enclosed). As a result, under the test promulgated in Management Recruiters of Richmond, Inc. and Dunhill of Greater Richmond, Inc., the Taxpayer's services business must be included within the descriptive or designating language of the Locality's ordinances in order for the Locality to lawfully assess the Taxpayer with a BPOL fee or tax.
The rest of this opinion discusses the measure of the Taxpayer's BPOL tax liability under the scenario in which the Taxpayer's business is sufficiently described or designated as a taxable business in the Locality's ordinances.
Gross Receipts are Attributed to the Franchisor's Office in the Locality
The gross receipts from the performance of services are attributed or sourced to the definite place of business at which the services are performed. If a business's services are not performed at any definite place of business, gross receipts are attributed or sourced to the definite place of business from which the services are directed or controlled. Code of Virginia § 58.1-3703.1 A3a(4) (copy enclosed).
The Franchisor states that its franchise services are performed principally outside of Virginia, and this is where its gross receipts should be sourced or attributed. The Locality disputes this and claims that the franchise services are principally performed at the Franchisor's office in the Locality, and this is where the Franchisor's gross receipts remain taxable.
The Franchisor contends that its franchise services are performed at its Franchisee locations, all of which are outside of the Locality. However, from the facts presented, services performed by the Franchisor at Franchisee locations would at most, include in-store training, inspection of construction, and assistance in on-site grand openings. Moreover, the typical franchise agreement lists just one instance in which the Franchisor's services must be performed on the Franchisee's premises - for a minimum of three business days during the grand opening of a franchised store, a representative of the Franchisor must be physically present at the franchised store for purposes of facilitating the opening of the store. Based upon the facts as presented and the typical franchise agreement, it is my opinion that each Franchisee location is a retailer of food products and sufficient evidence has not been presented by the Franchisor to support its contention that it exercises a regular and continuous services business at these retail locations. Because the Franchisor's services business is not being performed at the Franchisee locations, all gross receipts from this services business are attributed or sourced to the Franchisor's place of business in the Locality. This is the place of business where the services are performed and directed or controlled from, as the Franchisor maintains no other offices or locations elsewhere.
Measure of the License Tax
The amount of gross receipts that the Locality can subject to its BPOL tax must satisfy the test set forth in Complete Auto Transit, Inc. v. Brady, 430 U.S. 274 (1977). Under that test, the Locality's tax must be: (1) applied to an activity with a substantial nexus with the taxing authority; (2) fairly apportioned; (3) nondiscriminatory to interstate commerce; and (4) fairly related to the services provided by the state or locality. The Franchisor has the burden of producing evidence that the Locality's BPOL assessment fails this test.
The Franchisor has not formulated its contention that a tax on its gross receipts would be a violation of the Interstate Commerce Clause. It merely asserted that a tax on its gross receipts would be unconstitutional. Additionally, the Franchisor has not presented evidence sufficient to conclude that it is subject to tax outside of Virginia, necessitating an apportionment of its gross receipts. It has not produced evidence as to the extent or time commitment involved in performing any services outside of the Locality. The only evidence of any business activity required to be conducted outside of the Locality is a requirement in the typical franchise agreement for a representative of the Franchisor to be physically present at the franchised store, for a minimum of three business days, for purposes of facilitating the grand opening of the store (I note that there was no confirmation by the Franchisor as to whether or not it met this requirement). In short, the Franchisor has failed to produce evidence showing it is under an actual or potential risk of multiple taxation with respect to the gross receipts at issue in this case. Because the Franchisor has failed to produce evidence of such a risk, l conclude that an assessment of BPOL tax upon all the gross receipts of the Franchisor by the Locality would not run afoul of the Interstate Commerce Clause. Short Brothers, Inc. v. Arlington County, 244 Va. 520, 525 (1992) (copy enclosed).
Finally, as provided by Code of Virginia § 58.1-3732 (copy enclosed), the Locality must deduct from BPOL taxable gross receipts those receipts of the Franchisor attributable to business conducted in another state or foreign country in which the Franchisor is "liable for an income or other tax based upon income". In order to qualify for the deduction, the Franchisor must be required by the laws of another state or foreign country to file an income tax return or other return for a tax based upon income. 1997 BPOL Guidelines, page 30 (copy enclosed). See P.D. 97-490 for further explanation on how the deduction is calculated.
I hope that the above information will be beneficial to you. Although I believe this letter conforms with the law, it is written only for your guidance, and the final determination is with the locality.
Sincerely,
Danny M. Payne
Tax Commissioner
OTP/13030C
Rulings of the Tax Commissioner