News Briefs

Tax Legislation with Impact on Franchising Seems Stalled

While individual states continue to explore ways in which they can tax companies that make sales in the state but do not have a physical presence, it does not appear that the U.S. Congress is making it a priority to resolve the tax nexus issue.

S. 2152, the Sales Tax Fairness and Simplification Act, which the franchising industry opposes, remains stalled, and franchise experts say that it is unlikely to make much headway in a busy legislative year. The bill would, in the words of Bruce Schaffer, president of Franchise Valuations (New York), “in effect, overturn the physical-presence collection standard, enunciated in Quill Corp. v. North Dakota, 504 U.S. 298 (1992).” However, Sen. Mike Enzi (R-WY) has yet to find any co-sponsors for S. 2152, pointed out Matt Shay, president of the International Franchise Association, which indicates that the bill has little momentum, Shay said.

Meanwhile, H.R. 1956, the Business Activity Tax Simplification Act (“BATSA”), which does have franchise industry support, has been waiting for a vote by the House Judiciary Committee since December. “BATSA would answer the need for a fair, clear and uniform nexus standard for the imposition of business activity taxes by states and localities,” said Shay. “The bill seeks to bring predictability to an unpredictable tax environment for businesses, so that these businesses can make informed and rational business decisions.”

BATSA would create a “bright line” test to determine when an out-of-state business would be obliged to pay taxes to a jurisdiction, based on whether it meets the definition of having a “physical presence” in the state. “A physical presence is basically defined as leasing or owning real or tangible property in the state or assigning one or more employees in the state for more than 21 days,” Shay explained, adding that IFA testified in favor of BATSA before the House Judiciary Committee in September 2005. “This physical presence test is not new: It basically codifies the majority view among the states that the Constitution requires a physical presence, as opposed to other, unclear standards, before a state can impose business activity taxes on an out-of-state business.”

Although tax nexus legislation is apparently not a priority at the federal level, Shay observed that franchisors and franchisees should be aware of efforts in many state legislatures to gain access to tax revenues from out-of-state firms.

Krispy Kreme Dumps Houston, Philadelphia Franchisees

In the past few months, Krispy Kreme Doughnuts Inc. has terminated its Houston franchisee and closed its Philadelphia outlets that were part of a franchising joint venture with a local area developer. The pullbacks from those markets are among the many steps the company is taking to restructure after a difficult 2-year period in which sales have slowed, its stock price has plummeted, and lawsuits by investors and franchisees have accumulated.

In February 2006, the company cut its ties with Houston-area Lone Star Doughnuts Ltd., which operates six stores. Lone Star's lawsuit against Krispy Kreme was withdrawn as part of the arrangement, according to Krispy Kreme spokesperson Laura Smith. “The termination of the franchise and all litigation was by mutual agreement, and it's in the best interests of all partners,” she said.

Lone Star will stop using the Krispy Kreme name in March, but the company has announced it will continue to operate stores under the name Jumbles Dough Factory & Coffee Bar, and it will sell doughnuts.

Previously, in December 2005, Krispy Kreme announced that it closed all of its Philadelphia stores formerly operated by Freedom Rings, LLC. At its height, six Krispy Kremes were operating in Philadelphia, and the franchisee had a wholesale business.

At the time of closing, Krispy Kreme owned 100% of Freedom Rings, as a result of a financial arrangement made in October 2005 when Freedom Rings declared Chapter 11 bankruptcy. Originally, Krispy Kreme owned 70% of the franchisee, which was officially a “consolidated joint venture partner,” said Smith.

Despite the closures, Krispy Kreme President and CEO Steve Panagos said that the company is seeking growth opportunities. “Krispy Kreme remains committed to developing the brand in the Houston market and plans to re-establish stores in the area at the appropriate time,” Panagos said in a statement released online when Lone Star was terminated.

But Krispy Kreme's problems remain significant. In January 2006, Glazed Investments, the company's Minnesota, Wisconsin, and Colorado franchisee, filed for bankruptcy protection. The U.S. Securities and Exchange Commission is investigating Krispy Kreme's repurchase of franchises and earnings warnings that date back to May 2004. Krispy Kreme is also the target of a federal criminal inquiry in New York. And it is restating its fiscal year 2004 financial result and has not yet made its fiscal year 2005 filings.

Smith said that the company anticipates filing its Form 10-K for fiscal year 2005 by the end of April 2006, approximately a year late. The filing of that form and other financial restatements “will provide a lot of information about financials and operations, and will be a good source of information about the company's franchised operations,” she said.

Krispy Kreme has 320 stores and 80 satellite outlets in 43 states and several foreign countries.

Tax Legislation with Impact on Franchising Seems Stalled

While individual states continue to explore ways in which they can tax companies that make sales in the state but do not have a physical presence, it does not appear that the U.S. Congress is making it a priority to resolve the tax nexus issue.

S. 2152, the Sales Tax Fairness and Simplification Act, which the franchising industry opposes, remains stalled, and franchise experts say that it is unlikely to make much headway in a busy legislative year. The bill would, in the words of Bruce Schaffer, president of Franchise Valuations (New York), “in effect, overturn the physical-presence collection standard, enunciated in Quill Corp. v. North Dakota , 504 U.S. 298 (1992).” However, Sen. Mike Enzi (R-WY) has yet to find any co-sponsors for S. 2152, pointed out Matt Shay, president of the International Franchise Association, which indicates that the bill has little momentum, Shay said.

Meanwhile, H.R. 1956, the Business Activity Tax Simplification Act (“BATSA”), which does have franchise industry support, has been waiting for a vote by the House Judiciary Committee since December. “BATSA would answer the need for a fair, clear and uniform nexus standard for the imposition of business activity taxes by states and localities,” said Shay. “The bill seeks to bring predictability to an unpredictable tax environment for businesses, so that these businesses can make informed and rational business decisions.”

BATSA would create a “bright line” test to determine when an out-of-state business would be obliged to pay taxes to a jurisdiction, based on whether it meets the definition of having a “physical presence” in the state. “A physical presence is basically defined as leasing or owning real or tangible property in the state or assigning one or more employees in the state for more than 21 days,” Shay explained, adding that IFA testified in favor of BATSA before the House Judiciary Committee in September 2005. “This physical presence test is not new: It basically codifies the majority view among the states that the Constitution requires a physical presence, as opposed to other, unclear standards, before a state can impose business activity taxes on an out-of-state business.”

Although tax nexus legislation is apparently not a priority at the federal level, Shay observed that franchisors and franchisees should be aware of efforts in many state legislatures to gain access to tax revenues from out-of-state firms.

Krispy Kreme Dumps Houston, Philadelphia Franchisees

In the past few months, Krispy Kreme Doughnuts Inc. has terminated its Houston franchisee and closed its Philadelphia outlets that were part of a franchising joint venture with a local area developer. The pullbacks from those markets are among the many steps the company is taking to restructure after a difficult 2-year period in which sales have slowed, its stock price has plummeted, and lawsuits by investors and franchisees have accumulated.

In February 2006, the company cut its ties with Houston-area Lone Star Doughnuts Ltd., which operates six stores. Lone Star's lawsuit against Krispy Kreme was withdrawn as part of the arrangement, according to Krispy Kreme spokesperson Laura Smith. “The termination of the franchise and all litigation was by mutual agreement, and it's in the best interests of all partners,” she said.

Lone Star will stop using the Krispy Kreme name in March, but the company has announced it will continue to operate stores under the name Jumbles Dough Factory & Coffee Bar, and it will sell doughnuts.

Previously, in December 2005, Krispy Kreme announced that it closed all of its Philadelphia stores formerly operated by Freedom Rings, LLC. At its height, six Krispy Kremes were operating in Philadelphia, and the franchisee had a wholesale business.

At the time of closing, Krispy Kreme owned 100% of Freedom Rings, as a result of a financial arrangement made in October 2005 when Freedom Rings declared Chapter 11 bankruptcy. Originally, Krispy Kreme owned 70% of the franchisee, which was officially a “consolidated joint venture partner,” said Smith.

Despite the closures, Krispy Kreme President and CEO Steve Panagos said that the company is seeking growth opportunities. “Krispy Kreme remains committed to developing the brand in the Houston market and plans to re-establish stores in the area at the appropriate time,” Panagos said in a statement released online when Lone Star was terminated.

But Krispy Kreme's problems remain significant. In January 2006, Glazed Investments, the company's Minnesota, Wisconsin, and Colorado franchisee, filed for bankruptcy protection. The U.S. Securities and Exchange Commission is investigating Krispy Kreme's repurchase of franchises and earnings warnings that date back to May 2004. Krispy Kreme is also the target of a federal criminal inquiry in New York. And it is restating its fiscal year 2004 financial result and has not yet made its fiscal year 2005 filings.

Smith said that the company anticipates filing its Form 10-K for fiscal year 2005 by the end of April 2006, approximately a year late. The filing of that form and other financial restatements “will provide a lot of information about financials and operations, and will be a good source of information about the company's franchised operations,” she said.

Krispy Kreme has 320 stores and 80 satellite outlets in 43 states and several foreign countries.