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Does Your State Have Franchise Disclosure Laws? If Not, Then What?

By Mario Herman, Esq.

Before searching for a franchise opportunity, it’s important to understand how the State you live in or will operate your franchise, regulates franchising. In terms of franchise regulations some States do very little while others have strong requirements.

In addition to the Federal Trade Commission’s laws regarding the sale of franchises, fifteen states have franchise investment laws that require franchisors to provide pre-sale disclosures, known as "offering circulars," or “franchise disclosure documents,” to potential purchasers: California, Hawaii, Illinois, Maryland, Michigan, Minnesota, New York, North Dakota, Oregon, Rhode Island, South Dakota, Virginia, Washington, and Wisconsin.  With the exception of Michigan and Oregon, these state laws treat the sale of a franchise like the sale of a security and typically prohibit the offer or sale of a franchise within their state until a franchise offering circular has been filed on the public record with, and registered by, a designated state agency.   Michigan and Oregon do not require the filing of offering circulars.

These laws vary from state to state.  Some apply only to limited types of franchises.  Others apply only to transactions within their borders or franchises located with their borders, while some apply to offers made by franchisors within their borders even if the offer is made to someone in another state.  Several states make a franchisor's failure to comply with the disclosure laws an automatic violation of state law.  It is important for a prospective purchaser of a franchise, and anyone who wonders if they received proper disclosure before purchasing a franchise, to check not only the laws of the state in which the franchise is (or is to be) located, but also the laws of the state in which the franchisor is located, to see what protection is afforded by the applicable state laws.  These laws provide prospective and existing franchisees with important legal rights, including the right to bring private lawsuits for violation of the state disclosure requirements.  An attorney experienced in franchise law will be familiar with the various state laws, and will be able to advise you of your rights and remedies.

Even if your state does not have a franchise disclosure law, franchisors are still required to follow the FTC's disclosure rules. Under the FTC rules, franchisors are not required to file their Franchise Disclosure Documents (“FDD”) with any federal agency.  However, you must be given the FDD at least 14 days before you sign any franchise or other agreement, or pay any money to the franchisor.  This document must contain specific information about the franchise being offered, including information on items such as: the franchisor’s background, current and recent litigation, bankruptcy filings of the franchisor or its officers, costs related to staring up and operating the franchised business, restrictions on where you obtain supplies, territory rights and restrictions, trademark rights and restrictions, and financial statements of the franchisor.  While franchisors are not required to disclose information regarding potential income or sales, if the franchisor chooses to do so, it must follow the FTC’s rules regarding such representations and must have a reasonable basis for its claims, and must provide the documents which form the basis of such claims if requested by a prospective franchisee.  The FDD must also include a copy of the franchise agreement that will be signed by the prospective franchise. 

While there is no private right of action under the Federal Trade Commission Act (“FTC Act”), disclosure violations under the FTC Act can often be enforced through the statutory rights and duties found in the unfair business practices acts or "Little FTC" Acts under state law.  Many states have statutes patterned after Section 5 of the FTC Act, which prohibit unfair methods of competition and unfair or deceptive acts or trade practices. These Little FTC Acts prohibit "unfair" conduct as well as deceptive conduct, and often allow private actions for damages, attorney's fees, and sometimes treble (multiple) damages. Claims have been successfully advanced under such Acts to redress violations of the disclosure laws under the Federal Franchise Rule.  An attorney experienced in franchise law litigation will be able to advise  whether your state has a “Little FTC Act,” and if redress might be available.

Mr. Herman, based in Washington, D.C., represents franchisees domestically and internationally in negotiation, mediation, arbitration, and litigation.


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