Franchise Rights in China: Does a Brand’s Regulatory Penalty Mean an Automatic Fee Refund?

When researching a franchise brand, investors sometimes discover that the franchisor has had its ‘unlawful proceeds’ confiscated. They may assume that, if collecting franchise fees was unlawful, they must be entitled to their money back. In fact, regulatory penalties and contractual refunds address different issues. Before entering China’s franchise market, you need to establish not only whether a brand has been penalised, but also what conduct the penalty concerned, whether it affects your own contract, and how to protect any money you pay.

1. Confiscating franchise fees does not mean refunding franchisees

China has specific rules governing commercial franchising. Article 7 of the Regulations on the Administration of Commercial Franchising requires franchisors to have an established business model and the capacity to provide ongoing operational guidance, technical support and business training. They must also meet the requirement of having at least two directly operated outlets that have been trading for more than one year. Article 8 requires franchisors to complete the regulatory filing within 15 days of entering into their first franchise agreement.

In one publicly reported court case, a franchisor that neither met the ‘two outlets, one year’ requirement nor completed the required filing signed agreements with five franchisees and collected RMB 330,000. The court upheld the relevant authority’s decision to confiscate RMB 330,000 in unlawful proceeds and impose a fine of RMB 100,000.

The judgment confirmed that the regulatory penalty was lawful; it did not order refunds to franchisees. Confiscation of unlawful proceeds, fines and repayment of contractual sums differ in their legal basis, procedures and who receives the money. A franchisee cannot rely solely on the amount confiscated as an enforceable entitlement to a refund of the same amount.

Equally, the fine imposed in that case should not be treated as a benchmark automatically applicable to other brands. Different breaches, circumstances and statutory provisions may produce different outcomes.

2. Examine penalty records through three sets of questions

A penalty record is an important warning sign, but knowing only that a brand ‘has been penalised’ is not enough to decide whether to invest. Obtain the full penalty decision and, where necessary, check the related court judgments rather than relying solely on screenshots forwarded by franchise sales staff.

The first set concerns the entity and the timing: is the penalised company the same company that would sign your agreement? Which period, outlets and types of fees did the penalty cover? Different companies operating under the same brand should not be treated as interchangeable simply because their names are similar.

The second concerns the breach and its connection to your transaction: was the issue merely a late filing, a lack of directly operated outlets, or the concealment of important business information? Did the facts established in the penalty decision arise before you signed, and did they concern sales representations you relied on? These distinctions can affect the subsequent legal assessment.

The third concerns corrective action and actual capability: has the franchisor remedied the problems, and what verifiable documents support that claim? Can it now deliver the promised supplies, training and operational support? Completing a filing retrospectively does not, by itself, prove that all earlier problems have disappeared. Nor does it mean that the regulator guarantees investment returns.

Record your findings in three columns: ‘facts’, ‘documents’ and ‘points requiring explanation’. Where key questions remain unanswered, do not make advance payments in exchange for verbal assurances.

3. Prepare regulatory complaints and refund claims separately

Regulatory complaints and reports generally focus on whether the franchisor has breached regulatory requirements. Civil claims concern matters such as the validity of the agreement, grounds for termination, repayment and liability for losses. A regulator’s response to a report does not automatically replace a court’s or arbitral tribunal’s assessment of a refund dispute.

The Regulations on the Administration of Commercial Franchising and China’s Civil Code provide important legal foundations for analysing these issues. Failure to complete a filing or meet the ‘two outlets, one year’ requirement does not usually make an agreement automatically invalid, nor does it entitle a franchisee to a full refund at any time. Whether termination is available, and how much can be recovered, depends on the specific breach, the contractual terms, performance to date and the effect on the purpose of the agreement.

When preparing your evidence, consider keeping two separate files:

• Regulatory evidence: company identification details, penalty decisions, the specific suspected breaches and supporting evidence.
• Refund evidence: the agreement and its appendices, proof of payment, franchise sales representations, records of services actually provided, records of objections and requests for action, and evidence of losses.

If a penalty decision establishes that the franchisor concealed important facts, explain further why you relied on that information when deciding to invest and how it affected performance or the purpose of the agreement. A screenshot of a penalty decision alone is no substitute for showing those connections.

Do not put your civil rights on hold while waiting for a regulatory investigation. Making a complaint or report does not automatically suspend contractual obligations, and it cannot always be treated as interrupting the limitation period for bringing a claim. If deadlines or decisions to withhold payments are involved, promptly consult a lawyer familiar with franchise disputes in China.

4. Turn identified risks into enforceable contractual safeguards

If you are still considering joining a franchise after discovering a penalty record, ask the franchisor for a written explanation of the penalty, the status of corrective action and any unresolved issues. Incorporate important commitments into the contract appendices.

Payment arrangements can be linked to specific verification results or service delivery milestones. For example, make later payments conditional on agreed evidence of corrective action or the delivery of training, rather than relying only on a general promise that ‘the franchisor will operate lawfully’. These are contractual safeguards to be negotiated between the parties, not a standard payment model prescribed by law.

Also define the specific circumstances that trigger remedies. If the written explanation contains materially false statements, or the relevant unlawful conduct prevents the agreed services from being provided, what corrective action may the franchisee require? How long does the franchisor have to act? When can the agreement be terminated? How will a refund be calculated, and when must it be paid? Avoid simply stating that ‘any penalty entitles the franchisee to a full refund’ without defining which penalties are covered and how the refund process works.

If you have already signed and the franchisor offers a refund in exchange for withdrawing a complaint, first check the written settlement agreement’s provisions on the amount, payment deadline, liability for breach and scope of any waiver of rights. Do not treat a verbal promise as a guarantee that the money will arrive.

Practical takeaway: Treat a penalty record as the starting point for further checks, not as an automatic entitlement to a refund. First establish how the facts behind the penalty relate to your own transaction, then make separate arrangements for regulatory reporting, contractual remedies and payment protection.