Out-of-state franchisors beware of opening a franchise in New Mexico due to the recent decision in A&W Restaurants, Inc. v. Taxation and Revenue Department of the State of New Mexico and the potential for tax liability. The Taxation and Revenue Department of the State of New Mexico (“Dept.”) assessed over $29,000 in unpaid taxes against A&W Restaurants, Inc. (“A&W”) arising from its collection of royalty fees from several New Mexico franchisees.

In 2007, the New Mexico legislature amended the definition of “gross receipts” subject to the state gross receipts tax to include any money or value received from the grant of a franchise employed in New Mexico. Additionally, it removed from the definition of “gross receipts” any money or value received in connection with a trademark license agreement. Based on these definitions, A&W filed a protest seeking abatement of the gross receipts tax. During the course of the tax proceeding, A&W argued that the royalty fees were paid in connection with the trademark license provisions of the franchise agreements, omitting it from inclusion in the gross receipts tax. The hearing officer disagreed and upheld the Dept.’s assessment. A&W appealed the hearing officer’s decision.

The Court of Appeals in this case completed a thorough review of the amendments made by the New Mexico legislature and noted that the intent behind such revisions was to include royalty fees received in connection with franchise agreements subject to the gross receipts tax. Further, the New Mexico legislature wanted to exclude trademark license agreements but not franchise agreements that contain a trademark licensing provision. The Court noted, and A&W admitted, that a franchise agreement would not be entirely complete without a trademark license. With that, the Court upheld the hearing officer’s decision and held that A&W cannot separate out the trademark licensing provisions of the franchise agreement in order to avoid the gross receipts tax.

This decision serves as a reminder to ensure that your franchise agreement adequately protects you in this situation. It is important to keep your eye on similar legislative efforts in the future to appropriately plan for a franchisor’s potential tax liability.

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