Franchise Legal Services for Foreign Franchisors Establishing Franchise Systems in Toronto, Ontario, and across Canada

In an earlier article we discussed that five Canadian provinces have specific franchise legislation which imposes on a franchisor to provide a franchisee with a disclosure document prior to the prospective franchisee signing any agreement, or paying any consideration, relating to the franchise.

For a foreign franchisor wishing to establish a franchise system in Canada, there are a number of other issues to also take into account. This article will touch on several of those issues.

I. Trade-marks

In Canada, trade-mark protection falls under federal jurisdiction. Primary protection is achieved through registration under the Trade-marks Act. Although applications can be made to the Office of the Registrar of Trade-marks based on proposed use, a declaration of use must be filed for registration to occur. Registration is not required in order to prove ownership. However, it is highly recommended. Registration provides prima facie evidence of ownership requiring a challenger to positively disprove the registered holder’s right to the mark. Registration gives the owner the exclusive right to use the trade-mark in Canada for 15 years and is renewable for successive 15 year periods thereafter.

II. Patents

Like trade-marks, patent protection in Canada is a matter of federal jurisdiction. Unlike American law however, the protection of an invention under Canadian law is based on a first-to-file rather than a first-to-invent system. “Invention” is defined in the Patent Act to mean any new and useful art, process, machine, manufacture or composition of matter, or any new and useful improvement to those things. An invention, in order to qualify for protection under the Patent Act, must also not be obvious to a person skilled in the art or science to which it pertains. Once granted, a patent provides the owner with the exclusive right of making, constructing and using the invention, and selling it to others to be used, for a period of 20 years.

III. Taxation Issues

A. Goods and Services Tax/Harmonized Sales Tax

The Government of Canada imposes a goods and services tax (GST) on all goods and services supplied or deemed to be supplied by entities carrying on business in Canada. GST is currently set at 5%. Most provinces, with the notable exception of Alberta, apply their own sales tax, which varies from province to province. Newfoundland and Labrador, Nova Scotia, New Brunswick, PEI and Ontario levy a harmonized sales tax (HST) that combines the GST and the provincial sales tax. Suppliers, including foreign franchisors carrying on business in Canada, must register for the purposes of GST or HST. Registrants are required to charge, collect and remit GST or HST, as the case may be, to the Canada Revenue Agency (CRA) unless the goods or services are zero rated or exempt. However, registrants are entitled to claim input tax credits on their purchases of goods and services which can be offset against the GST or HST that must be remitted to the CRA.
B. Income tax

Foreign franchisors carrying on business may be liable to pay income tax under the Canadian Income Tax Act. The test to determine whether an entity is carrying on business in Canada is lower under the Income Tax Act than it is for the purposes of the GST or HST. However, tax treaties between Canada and other jurisdictions can modify the rules of general application that otherwise govern the imposition of income tax. For example, the Canada-United States Income Tax Convention provides that qualifying entities carrying on business in Canada are generally not subject to tax unless they operate from a permanent establishment in Canada. Foreign franchisors must therefore be aware of and consider the implications of any relevant tax treaties to determine whether tax is exigible on income generated in Canada.

Foreign franchisors may also be subject to withholding taxes imposed by the CRA. In order to ensure efficient taxation of Canadian businesses, the Income Tax Act requires Canadian franchisees to withhold and remit a percentage of certain payments, including initial franchise fees and continuing royalties, that are payable to non-resident entities. The global rate is 25 percent. However, tax treaties with various countries have reduced the withholding tax on such payments to as low as 5 percent. The applicable rate under the treaty with the United States is currently 10 percent. Thus, Canadian franchisees are required to withhold 10 percent of amounts payable to American based franchisors and remit that percentage directly to the CRA. Foreign based franchisors might be tempted to essentially top up the amounts payable by its Canadian franchisees to account for withholding taxes. This practice is viewed critically by Canadian franchisees and is generally disfavoured. However, the effect of withholding taxes can be offset in certain jurisdictions where such amounts can be claimed by the franchisor as tax credits.

IV. The Competition Act

The Competition Act is a federal statute administered by the Competition Bureau which has as its stated purpose the maintenance and encouragement of competition in Canada for the benefit for businesses and consumers. The statute has both criminal and civil sanctions and prescribes penalties for such reviewable activities as bid rigging, false or misleading advertising, abuse of dominant position, exclusive dealing, tied selling and market restrictions, as well as price fixing, refusal to deal and deceptive marketing practices.

Each of these issues could be relevant to foreign franchisors depending on the nature of the franchised business and the goods or services they offer. Most franchisors should be concerned with the rules surrounding false or misleading advertising and deceptive marketing practices. The Bureau is guided by what it refers to as “truth in advertising” principles that are aimed at discouraging deception and encouraging the provision of sufficient information to allow a consumer to make an informed purchasing decision. The civil and criminal sanctions for contravening these provisions of the Competition Act can be severe.

Advertising is subject to other regulatory requirements and approvals. All radio and television advertising must be approved by the Canadian Radio and Television Commission. Other forms of advertising may require provincial authorizations. Again, much depends on the nature of the goods or services in question. Foreign franchisors should not assume their domestic advertising practices will meet Canadian standards. Advice of Canadian counsel is therefore required to ensure compliance with Canadian advertising requirements.

V. Currency

Foreign franchisors generally prefer to receive payments in their own currencies, thereby transferring the risk associated with currency fluctuations to franchisees operating outside of the home country. While this is understandable, it often works as an unacceptable hardship on franchisees. It must be remembered that a Canadian franchisee will purchase its supplies and sell its goods or services in Canadian dollars. While the Canadian dollar has stabilized in recent years, especially against the American dollar, a dramatic fall in its value could severely impair a franchisee’s profitability and in some cases its viability. Careful consideration must therefore be given to this issue.

Where a foreign based franchisor requires payment in its own currency, appropriate language determining the timing of conversion for the purpose of payment must be included in the franchise agreement. In such cases, the agreement will typically stipulate conversion on the payment due date at the rate set by a designated financial institution.

VI. Product Packaging and Labelling

Packaging and labelling for pre-packaged non-food products (excluding drugs and medical devices) are regulated by the federal Consumer Packaging and Labelling Act and the Consumer Packaging and Labelling Regulations, which are also administered and enforced by the Competition Bureau. The Act requires that all product descriptions, including pictorial representation, be neither false nor misleading to the consumer.

The Act and the Regulations also define mandatory labelling information that must be included on all labels for consumer products. Canada is an officially bilingual country. The legislation describes what information must be expressed in both English and French for packaging and labelling purposes. This is an important consideration for retail products sold by Canadian franchisees that are not sourced in Canada. While many foreign based franchisors might appreciate that Quebec is a French speaking province, they might not be aware that these labelling requirements apply countrywide. Foreign franchisors must ensure that consumer products intended for retail sale in Canada meet these requirements.

Food product and alcoholic beverage labelling and advertising are governed by two other pieces of federal legislation, the Food and Drugs Act and the Food and Drug Regulations. The Act and Regulations apply not only to food and alcoholic beverages manufactured in Canada but to those imported into the country. The legislation prohibits the packaging, labelling, processing, selling or advertising of products in a manner that is false or deceptive to consumers or which is misleading with respect to its character, composition, value or safety. Unless provided for in the Regulations, the Act prohibits the making of any claims that a food is a preventative, treatment or cure for specified diseases or health conditions. The Regulations also set out the requirements for the labelling of pre-packaged foods, including their ingredients, nutritional content, shelf life, health claims and special dietary uses. As with all consumer products, the Regulations prescribe the requirements for bilingual labelling. Cosmetics packaging and labelling are similarly regulated by the Food and Drugs Act and the Cosmetic Regulations passed under that Act.

Foreign franchisors should not assume that the formulations used in food products and cosmetics in their home countries meet the requirements of Canadian legislation. Again, assistance of counsel will be necessary to make that determination.

We have the skills and experience to assist foreign franchisors in establishing their franchise system in Canada.

By David N. Kornhauser, MBA, LL.B. Mr. Kornhauser is corporate counsel at Macdonald Sager Manis, LLP, in Toronto, Ontario. Mr. Kornhauser’s and Mr. Kleinman’s practice includes representing both franchisors, franchisee advisory councils and franchisee associations in all aspects of franchise law. David can be contacted at 416-862-6280 or 855-324-3944 or by e-mail at david@franchisingforum.ca or dkornhauser@msmlaw.ca; Michael can be reached at or by e-mail at michael@franchisingforum.ca or mkleinman@msmlaw.ca

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