Receipt of the National Advertising Fund Contributions from Franchisees Not Subject to Income Tax

May 16, 1994 BIR RULING NO. 103-94 28 000-00 103-94 Sycip Gorres Velayo & Co. 6760 Ayala Avenue, Makati Metro Manila Attention: Mr . R . R . Rubio Gentlemen : This refers to your letter dated July 17, 1993 stating that your client, the International Family Food Services, Inc. (IFFSI), a domestic corporation, is the exclusive licensee in the Philippines of all rights to license a unique system developed by Shakey's Inc., U.S.A., for the efficient management and operation of clean, attractive, distinctive, high quality pizza parlor restaurants of high quality pizza and other food products; that pursuant to the Territorial License agreement between IFFSI and Shakey's, Inc., U.S.A., the latter granted to the former (a) the exclusive right to license other corporations, partnership, individuals and other entities (hereinafter referred to in the aggregate as "Franchisees") to use the system, and (b) the right to use the system in the Philippines in the operation of its own pizza parlor restaurants; that by virtue of the rights conferred by Shakey's, Inc., U.S.A. to IFFSI under the agreement, IFFSI entered into a Dealership Agreement with various franchisees, which granted the said franchisee the license to operate pizza parlor restaurants and to use the system; that under the typical IFFSI Dealership Agreement, a franchisee is granted, for a varying period of 5 to 20 years, the right to use the service mark and trademark, "SHAKEY'S", and the trade name and style and service mark "SHAKEY'S PIZZA PARLOR AND YE PUBLIC HOUSE', and conduct a pizza parlor business at the designated location; that the franchisor, IFFSI, is obligated under the Dealership Agreement to provide specified initial advice and training in the operation of a pizza parlor business and certain continuing services to each franchisee; that the franchisees are required to adopt and maintain certain business procedures and conduct a high quality pizza parlor in accordance with the "SHAKEY'S SYSTEM' standards; that IFFSI receives a certain percentage of the franchisees gross sales as franchisees fee; that in order to ensure consumer awareness of the "SHAKEY'S" pizza parlor, the Dealership Agreement requires that the franchisees contribute to a National Advertising Fund (NAF) an amount equivalent to 3% of their monthly gross sales; that since the franchisees have no central organization of their own, and realizing the impracticality and possible inequity of having the national advertisement carried out individually by the franchisees, it was agreed that the franchisees' contributions to the NAF shall be made to IFFSI who shall then take charge in national advertising and the management of the NAF; and that the contributions shall be accounted for separately in the books of IFFSI and shall be maintained in a separate bank account. cdtech In connection therewith, you are requesting confirmation of your opinion to the effect that IFFSI'S receipt of the NAF contributions from its franchisees which are to be used solely for national advertising and advertising related expenses constitutes a trust fund and therefore do not form part of IFFSI'S taxable income subject to income tax. In reply thereto, please be informed that your opinion is hereby confirmed. IFFSI'S receipt of the NAF contributions from its franchisees which are merely held in trust and could realize no gain or profit as a result of its receipt but which is to be used solely for national advertising and advertising related expenses for the benefit of the said franchisees are not includable in IFFSI'S gross income; hence IFFSI is not subject to income tax thereon. [See Ford Dealers Advertising Fund vs. Commissioner (SS TC 761, 29 AFTR 2d- 539, 456)] cdt Very truly yours, VICTOR A. DEOFERIO, JR. Acting Commissioner of Internal Revenue