What Potential Franchise Owners Need to Know About Registration States
To enjoy the benefits of a franchise business, franchisors are responsible for registering their franchise each year in every state they plan to do business. Potential franchisees should know how the process works. Knowing what to look out for is important to avoid potential problems and cover your bases.
How the Franchise Registration Process Works
Registering a franchise can be a complicated process for franchisors, regardless of the amount of time they’ve been in business. Many states have a regulatory oversight agency that reviews every Franchise Disclosure Document (FDD) of any company that tries to offer a franchise for sale within its state. Additionally, several of these states have different requirements to register the franchise with various required disclosures that must be filed correctly. In addition, many of these states require an annual registration to ensure that the franchise complies with its requirements.
These oversight agencies carefully review the FDD to ensure it is amenable to state regulations. Typically, the state must comment on an FDD and require a franchisor to clarify specific provisions when necessary. The franchisor is then asked to resubmit their documentation with the proper edits recommended by the state. The entire process can be grueling and take months to gain approval if it is not handled correctly.
There are three franchise state registration types. It is vital that the franchisor (or his attorney) reads each state’s rules and regulations. The three primary types of franchise state registrations are:
- Franchise Filing States require franchisors to file an FDD and pay a fee without additional approval from the state.
- Franchise Registration States require franchisors to file an FDD, pay a fee, and seek the state’s approval.
- Franchise Non-Registration States require franchisors to submit their FDDs and follow Federal Trade Commission (FTC) guidelines in order to offer and sell franchises in that state.
The Franchise Registration States are:
- New York
- North Dakota
- Rhode Island
When a franchise's trademarks aren’t registered with the United States Patent and Trademark Office, then additional states will require FDD registration. These states are Connecticut, North Carolina, South Carolina, and Maine.
What is Involved in FDD Registration?
FDD registration means that a state examiner reviews an FDD and franchise registration application and grants franchisors the right to offer and sell franchises within the state. The state regulators do not verify the accuracy of the disclosures contained in the FDD but determine if the FDD satisfies state regulatory requirements. Additionally, state examiners will review the franchise’s financial statements and may condition registration based on the satisfaction of financial assurance requirements.
Franchise Filing States
In addition to franchise registration states, there are also franchise filing states. Franchise filing states require the franchisor to file and pay a fee but don't require documents to seek approval to sell franchises as registration states do. Franchise filing states for franchises with a federally registered trademark include:
- South Carolina
- South Dakota
- North Carolina
Franchises that don’t have federally registered trademarks can also file in Georgia and Louisiana.
State vs Federal Franchise Rules
At the federal level, franchising is regulated by the FTC’s Federal Franchise Rule. Every state is different and has different rules, so it's good to understand the rules for the state(s) you’d like to do business in. These rules and regulations can be challenging to keep up with. Of course, it’s the franchisor’s job to keep up with all of these franchise registration state requirements, but as a potential investor, understanding the process is important.
Due Diligence Before Owning a Franchise
Before deciding to invest in a franchise business, seek the advice and guidance of a franchise consultant. This expert will help you determine your franchising path by looking at your skills, experience, and finances. As you get closer to investing in a franchise, a franchise attorney can help you look through the FDD and bring up any red flags in regard to state regulations.
A red flag can include when there are no state registrations listed in the FDD at all. As a prospective franchise owner, you don’t have to register a franchise business. But it’s beneficial to know that franchisors aren’t required to register in states where they don’t plan to sell franchise businesses. If the franchisor avoids selling franchise businesses in registration states, then the franchisor could be concerned about their FDD or sales tactics. The franchisor discloses where you can buy a franchise (and can’t) in the cover pages and the charts in item 20 of the FDD.
Another part of the due diligence process is attending discovery day and making your final decision to buy a franchise or not after the franchisee validation process. Both involve vetting the franchisor and current franchisees to get a sense of what owning a franchise is like. Owning a franchise business is a serious commitment and shouldn’t be taken lightly. Doing your due diligence can stop you from buying a business that isn’t ideal for you.