What Are the Different Types of Franchise Fees?

Franchise fees are the costs a franchisee pays to a franchisor for the right to use the company’s brand, operational systems, and receive ongoing support. The total financial commitment includes more than a single upfront payment, as it also covers recurring costs needed to maintain the franchise relationship. A prospective franchisee must analyze all these costs to determine the long-term financial viability of the investment. This financial arrangement forms the core of the franchise agreement, defining the economic partnership between the two parties.

The Initial Franchise Fee

The initial franchise fee is a one-time, upfront payment made upon signing the franchise agreement. This fee secures the right to operate a business under the franchisor’s name and use its trademarks and operating systems. The amount ranges from $25,000 to $65,000, depending on the brand’s recognition and business model. This payment covers the franchisor’s costs for onboarding a new franchisee, including training programs, site selection assistance, and marketing to find new candidates.

The initial fee does not cover all startup costs. Expenses such as real estate, construction, equipment, and initial inventory are separate investments the franchisee must finance. The fee is specifically for gaining access to the franchisor’s intellectual property and established business framework.

Ongoing Royalty and Service Fees

After the initial investment, franchisees make continuous payments to the franchisor. The primary recurring payment is the royalty fee, which is the main revenue stream for the franchisor. This fee is calculated as a percentage of the franchisee’s gross sales, not profit, and is paid on a regular basis. Royalty percentages range from 4% to 9% of gross revenue and compensate the franchisor for the ongoing right to use the brand and its systems.

Franchisees are also required to contribute to an advertising or marketing fund. This fee, also a percentage of gross sales, is pooled from all franchisees to finance national or regional advertising campaigns. The average advertising fee is around 2% of monthly revenues. These funds are managed by the franchisor and used for large-scale marketing efforts that individual franchisees could not afford on their own.

A technology or software fee is another ongoing cost. This fee covers the licensing and use of proprietary software, such as point-of-sale (POS) systems or scheduling tools. Unlike royalties, this is often a flat-rate fee that supports the maintenance and development of the digital tools used across the franchise system.

Other Potential Franchise Fees

A franchise agreement may include other situational charges. A renewal fee is charged at the end of the agreement’s term if a franchisee wishes to continue operating and secure a new contract. If a franchisee sells their business, a transfer fee is required to cover the franchisor’s costs for approving and training the new owner.

The renewal amount can range from an administrative cost to a percentage of the initial franchise fee, while the transfer fee can be a fixed amount or a percentage of the sale price. Other fees might include charges for additional training or an audit fee if the franchisor finds discrepancies in financial records.

Tax Treatment of Franchise Fees

The tax treatment for franchise fees differs based on the type of fee, and the Internal Revenue Service (IRS) has specific rules for how franchisees must account for these payments. The initial franchise fee is a capital expense, not an immediate business deduction. Under Internal Revenue Code Section 197, this fee is an intangible asset and must be amortized, meaning the cost is deducted in equal increments over a 15-year period.

For example, a $150,000 initial fee would result in an annual tax deduction of $10,000 for 15 years. In contrast, ongoing fees like royalties, advertising contributions, and technology fees are considered ordinary business expenses. These recurring payments can be fully deducted from the franchisee’s income in the year they are paid, which lowers their tax liability.

This dual treatment requires careful record-keeping to distinguish between the amortized initial fee and deductible ongoing expenses for tax compliance.

Locating Fee Information in the Franchise Disclosure Document

The primary source for all official information on franchise fees is the Franchise Disclosure Document (FDD). Franchisors are required by the Federal Trade Commission to provide this legal document to prospective buyers at least 14 days before a contract is signed or money is paid. The FDD contains 23 sections, known as “Items,” that detail the franchise offering.

Item 5 of the FDD provides a breakdown of all initial fees, including the amount and any refund conditions. Item 6 presents a table of all other recurring fees, such as royalties, marketing contributions, and technology fees, as well as potential charges like transfer or renewal fees.

To understand the total estimated cost of opening the business, a prospective buyer should review Item 7. This item provides a table with a low-to-high estimate of the total initial investment. This includes the initial franchise fee from Item 5 plus other startup costs like real estate, equipment, and working capital.