ACCOUNTANCY FORM 6 – ROYALTY

. Concept of Royalty

. Minimum rate and short workings.

. Accounting entries in the books of lesser / landlord.

. Accounting entries in the books of lessee / tenant.

This is the remuneration payable to a person in respect of the use of an asset, calculated with reference to the quality produced/sold as result of use of such asset.

The loyalty is a periodic payment to the owner of an asset for the use of his ownership right that is royalty is a compensation made to the owner of an asset in exchange for the right to use that asset. 

Royalty may arise in respect of the following;

a) For the extraction of minerals / materials from the ground.

b) For the publishing and books from the permission of the author.

c) For the use of the artistic work like movies e.t.c

Any lump sum amount paid for the use of any asset in never called royalty because it is capital payment.

TERMS USED IN THIS TOPIC:

i)   Lesser / Land lord:   This is owner of the asset, the person whom the right to use the land is granted is called tenant / lessee.

ii)  Short workings: This is the difference between royalty and minimum rent/excess of minimum rent over royalty.

iii)  Minimum rent / dead rent / rock rent / flat rent
Is the guaranteed amount that is landlord or the owner of the copy right is to receive.

iv)   Recoupment of a short working; according to the short workings closed or contract, the tenant is empowered to cover the amount paid in excess of actual royalty out of the excess royalty over minimum rent (surplus). Until the stage of recovery is reached , he can accumulate the short workings and when once the stage of surplus is reached, he can go on recovering the excess of minimum rent, and after full recovery , pay the actual royalty. Usually in contracts where there is provision of minimum rent, there is also a provision of equipment of short workings. Generally, recoupment is the right of getting back from the land lord excess payment made by the tenant in the earlier years. The right to recoupment short workings may be either; a.1 fixed b.1 A floating type.

In case of a Fixed right or recoupment of short workings, the right is available only for a fixed period of time.

In case the tenant is not in a position to recoup the short workings during this period, the balance amount will be a loss to him which will be w/o from the profit and loss (P + L) a/c.

Illustration 1

A limited Co. leases a mine at a loyalty of 20/= each pert tone of coal raised which a dead rent for 400,000 per annum and further to recouped short workings during the first five years of the lease. Output during the first five years is as follows;

Required:

Show journal entries and ledger accounts in the books of lessor and lessee

Note: All workings should be shown

                                                   ROYALTY TABLE      

 
 

The following account made in;

A) When there is no provision for dividend or minimum rent.

i) Royalty based on actual production.

   DR: Royalty payable a/c

          CR: Land lord’s a/c

ii) Cash paid to the land lord.

     DR: Land lord a/c

           CR: Cash a/c

B) When there is provision for minimum rent

   i) Royalty based on production

       DR: Royalty payable a/c

                    CR: Land lord a/c

   ii) Short workings to be recovered in Future

         DR: Short workings a/c

                  CR: Landlord a/c

   iii) Cash paid to landlord

            DR: Landlord a/c

                     CR: Cash a/c

     iv) Short working unrecovered (if any)          

            DR: Profit & loss a/c (Bad debts)

                 CR: Short workings a/c

c) When royalty exceed minimum rent

            i) Royalty based on actual production

                        DR: Royalty payable a/c

                             CR: landlord a/c        

            ii) Short working recouped, if any

                        DR: Landlord a/c

                            CR: Short working a/c

            iii) Cash paid to landlord

                        DR; Land lord a/c

                               CR; cash a/c

Note: Cash paid to landlord must not be less than minimum rent

            iv) Short workings irrecoverable

                        DR; profit & loss a/c

                             CR; short working a/c

Workings:

      DR                      ROYALTY PAYABLE ACCOUNT                        CR

 
 

DR                                         A. LTD’s ACCOUNT                                     CR

 
 

 
 

DR                                           LAND LORD ACCOUNT                                     CR

 
 

       DR                               ROYALTY     RECEIVABLE                                     CR

 
 

       DR                       TENANT   ACCOUNT (S.G COY LTD)                                        CR

 
 

              DR                                 ROYALTY SUSPENSE ACCOUNT                                        CR

 
 

ILLUSTRATION III;Mr. R Company leased a Royalty from Mr. A of 1 E per tone’s which a minimum rent of 30,000 E.P.A each years of excess of dead rent over royalty is recoverable out of the royalties of the next five (5) years. In the event of strike and the minimum rent not being reached. The lease provided that the actual royalty and for the year should be paid, the result of workings were as follows;

 
 

SUB- LEASE

• The lease agreed sometimes gives right to the lessee to sub contact the right for the use of asset, this is known as “Sub – lease”.
  
• And the person who is sub – contracted is known as sub lessee / sub tenant.
  
• The accounting treatment for the sub lease and the lease and the lessee is similar to that of the land lord and sub lease.
  
• In the case of sub- lease, the lessee takes the legal stand of the land lord to the sub-lessee. 
  
• It must be noted that there is no agreement between the original landlord and the sub- lessee as per the original agreement terms. But what eventually is paid to the original land lord is calculated based on the total output of the both lessee and sub- lessee.
  
• The lessee is paid based on the output produced or manufactured by sub – tenant.
  
• In most cases the lessee chargers higher price to the sub-lessee than be is charged to the original landlord. Profit of the such price are transferred to the P + L A/C
  

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ACCOUNTING TREATMENTS:           

i) Royalty payable ( own + sub- lessee)

   DR: Royalty payable a/c

   CR: Land lord’s a/c

ii) Royalty receivable a/c (Based on sub – tenant production)

     DR: Sub tenant a/c

     CR: Royalty receivable a/c

iii) Short working recoverable in future by sub – Lessee

       DR: Sub – tenants

      CR: Short workings

iv) Royalty payable by tenants on sub-tenants production

     DR: Royalty Receivable a/c

     AC: Royalty payable a/c

v) Profit on sub – lease;

     DR; Royalty Receivable a/c

     CR: P + L a/c

ILLUSTRATION

Doti limited acquired rights from Note ltd to manufacture and sell a certain brand of perfume on the following terms;

i)   Royalty shall be paid on number of bottles manufactured at 20/= per bottle /per unit.

ii)  The minimum royalty in any one year shall be 500,000/=

iii)Short working will be recouped within the first two year of short workings.     

iv)The agreement to become effective on 1^st July 2000.

v)  All settlement were made on 31^st December on each year.

 
 

On 1^st January 2000, Doti limited granted right to Mwingine Ltd to manufacture and sell the same perfumes on the following terms;

a)   Royalty shall be paid on number of bottles manufactured at 30/= per bottle/ per unit.

b)   The minimum royalty in any one year shall be 200,000/=

c)   Short working recouped only in the year

Following the year of short workings.

The following information is provided;

 
 

Required;

Show ledger account in the books of Doti LTD.

                          ROYALTY TABLE       (i)       ORIGINAL LEASE

                      
 

                                               ROYALTY TABLE       (ii)

          
 

Profit on sub- lease:

Royalty payable       –    20/=

Royalty receivable   –     30/=

                                        10/=

2001 : 6000 x 10 = 60,000

2002: 7000 x 10 = 70,000

2003: 11000 x 10 = 110,000

2004: 5000 x 10 = 50,000