ROYALTY ACCOUNT

DEFINITION OF ROYALTY:
         ''Royalty is the remuneration payable to person in respect of  the use of an asset,whether hired or purchased from such persons, calculated by reference to and varying with quantities produced or sold as a result of such asset''.
Ideal Definition of Royalty:
'' Consideration for the use of special right is called Royalty.
TYPES OF ROYALTIES:
There are many types of royalties:
(i) Mining Royalties
(ii) Brick- making Royalties
(iii) Oil- well Royalties
(iv) Patent Royalties
(v) Copyright royalties
(vi) Royalties in connection with machines, secret process and technical knowledge, etc,;
(vii) Royalties to foreign companies for sale of produce;
(viii) Trade Mark Royalties.

Minimum Rent:

Usually, the royalty agreements contain a clause for the payment of a fixed minimum amount to the lessor every year as royalty—irrespective of the actual benefit to be taken by the lessee—simply in order to assure the lessor of a certain regular income from his property.

This minimum amount is known as “Minimum Rent, ‘Dead Rent’, etc. It is to be remembered that the Minimum Rent may or may not vary in different years. The Minimum Rent or actual royalty, whichever is higher, is to be paid to the lessor. For example, X leased a mine from Y at a Minimum Rent of Rs. 12,000 p.a. merging a royalty of Rs. 2 per ton of coal raised.

Now, if the quantity raised for the 1st year amounted to 4,000 tons and that of 2nd year 8,000 tons, in that case, X will have to pay Rs. 12,000 for the 1st year to Y, i.e., the Minimum Rent [since actual royalty (8,000 = 4,000 × 2) is less than Minimum Rent]. On the contrary, he will have to pay Rs. 16,000 to Y for the 2nd year [since actual royalty (16,000 = 8,000 × 2) is more than the Minimum Rent.].

Short-working:

The excess of Minimum Rent over actual royalty is known as short-working. Therefore, question of short-working will only arise when the actual royalty is less than the Minimum Rent. Short-workings which are recoupable will appear in the assets side of the Balance Sheet as a current asset.

In the above example, short-working for the 1st year will be Rs. 4,000 [i.e., Rs. 12,000 – Rs. 8,000 (4,000 × Rs. 2)], since actual royalty is less than the Minimum Rent. But, in the 2nd year, there will be no such short-working since actual royalty is more than the Minimum Rent.

Short-working and Minimum Rent—their relationship:

It has already been explained earlier that when the actual royalty (calculated on the basis of a fixed rate to total quality) is less than the amount of the minimum fixed amount (i.e., Minimum Rent) short-working arises. In short, short-workings arises only when actual royalty is less than the Minimum Rent i.e.,

Short-working = Minimum Rent – Actual Royalty

or, Minimum Rent = Actual Royalty + Short-working

However, in the case of landlord, the amount of Minimum Rent is equal to Actual Royalty Receivable plus the short-workings, i.e.,

Minimum Rent— Actual Royalty Receivable + Short-working

It must be remembered that the landlord is entitled to get the Minimum Rent or Actual Royalties, whichever is higher, (after adjusting the amount of Short-workings, if any.)

Ground Rent — Sometimes the Lessee is to pay an additional fixed rent in addition to the minimum rent which is known as Ground Rent or Surface Rent.

Method of Accounting:

A. Where there is a Clause on Minimum Rent and Recoupment of Short- working Consequently:

Books of Lessee or Tenants or Licence:

Entries:

Practically, royalties based on output should be debited to Manufacturing or Production Account whereas royalty based on sales be treated as selling expenses) should be debited to Trading Account on Profit and Loss Account.