Franchise Law 101: What to Know Before Buying a Franchise

Buying a franchise can be an exciting way to start a business, but it comes with legal obligations that are unique to franchising. Understanding franchise law before buying a franchise is essential to protect your investment and support long-term success. Before signing a franchise agreement, it’s critical to understand the legal documents, disclosure requirements, and compliance risks involved. This guide covers what you need to know before signing a franchise agreement.

Understand the Franchise Agreement

The franchise agreement is a binding contract between you and the franchisor. Key elements include:

  • Fees and royalties – Initial franchise fees, ongoing royalties, and advertising contributions
  • Territory rights – Whether you have exclusive operating rights in a certain area
  • Duration and renewal – How long the agreement lasts and how it can be renewed
  • Termination clauses – What could cause the franchisor to end the agreement

Always have a business lawyer review the agreement before signing to protect your interests. Let’s be honest here, most franchise contracts grossly favor the company selling the franchise. There are numerous horror stories of would-be franchisees being duped by misleading sales pitches, being introduced to “success stories” and then being locked into a money losing operation. Many franchisees are forced to take on substantial debt, such as second mortgages on homes, to afford the franchise fees and start-up costs.

It is CRITICAL that you read and understand your franchise agreement and do your homework. Meet with other franchisees in your area, try and gather a realistic expectation of what the company is expected to earn, especially after all fees have been paid to the franchisor.

Franchise Disclosure Document (FDD)

Franchisors are legally required to provide a Franchise Disclosure Document. This document includes:

  • The franchisor’s financial performance
  • Litigation history
  • Obligations of both parties
  • Fees and initial investment estimates

Reviewing the FDD helps you understand risks, costs, and legal obligations. Again, it is absolutely critical to understand what you are getting into. Starting a franchise is a huge commitment and you do not want to sign anything you are not prepared to be held to.

State and Federal Franchise Laws

Franchises are regulated at both the federal and state levels:

  • Federal law: The Federal Trade Commission (FTC) requires franchisors to provide the FDD and prohibits deceptive practices.
  • State law: Many states have additional registration requirements and rules to protect franchisees. Nevada, California, and New York, for example, have strict franchise registration and disclosure regulations.

Knowing these laws helps prevent legal issues and ensures compliance.

Restrictions and Obligations

Franchise agreements often include:

  • Operational requirements – Specific ways you must run the business
  • Brand standards – Adhering to marketing, signage, and quality guidelines
  • Non-compete clauses – Limits on working in competing businesses during and after the franchise term

Violating these clauses can result in legal disputes or termination. Franchise agreements are usually held up in court. It is important to understand that the agreements are legally binding contracts, and they usually favor the franchisor, not you so do your homework.

Financing and Investment Considerations

Starting a franchise can require a significant investment. When evaluating your investment:

  • Consider total initial costs including equipment, inventory, and fees
  • Understand ongoing royalties and advertising contributions
  • Factor in personal guarantees required for loans or financing

A lawyer can help identify potential risks in your financial commitments. Try reaching out to other franchisees in your area, not just the ones that franchisor has introduced you to. Make sure that you understand the financial costs and risks of starting the business.

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Legal Help is Essential

Franchise agreements are complex and heavily skewed in favor of the franchisor. A business lawyer can help you:

  • Review your franchise agreement and FDD
  • Identify restrictive or risky clauses
  • Understand state-specific franchise laws
  • Negotiate better terms, when possible

Getting professional guidance can save you from costly mistakes and protect your investment.

Final Thoughts: Buy the Business, But Know the Law First 

Buying a franchise offers a proven business model, but it comes with legal obligations that cannot be ignored. Understanding franchise law, carefully reviewing agreements, and working with a qualified business lawyer are essential steps before committing. Protect your investment and set yourself up for success by making informed, legally sound decisions. It is often better to spend a little money on a lawyer before entering into an agreement than a lot of money on a lawyer when things don’t go as expected down the road.