Understanding Royalty, Minimum Rent, and Short Working in Leases
Royalty in leasing is a periodical payment based on output or sales made by a lessee to a lessor. Minimum rent is the guaranteed amount paid by the lessee in low-output years, and short working is the excess of minimum rent over actual royalty. Recoupment of short working allows recovering shortages from previous years. These concepts help maintain fair agreements between lessors and lessees in lease contracts.
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Presentation Transcript
Royalty is the periodical payment based on the output or sale made by one person called the lessee, to another person called the lessor, for taking out on lease the special rights vested with the lessor. For instance, the periodical consideration, based on output, made by the lessee of a mine, quarry or patent to the lessor or landlord or patentee.
Royalty account is a nominal account. It is an expense for the lessee who pays it. If the royalty is based on output, it is considered as manufacturing expense, and it is transferred to Production/Trading A/c. If the royalty is based on sale it is considered as selling expense, and it is transferred to Profit or Loss A/c. For the lessor who receives the royalty, royalty is an income. Hence it is credited to lessor A/c.
Minimum rent is the minimum guaranteed amount which the lessee is required to pay to the lessor in the year of no output or low output. Payment of minimum rent arises only when the royalty calculated is less than the minimum rent. If royalty is more than minimum rent, there is no question of payment of minimum rent. Minimum rent is also known as Dead Rent, Fixed Rent, Rock Rent & Flat Rent.
Minimum rent is predetermined and mutually agreed between lessor and lessee. Normally minimum rent is applicable only on the first one year or a few years of the agreement when actual production may not have reached normal level. For eg: The minimum rent is 50,000, the actual royalty on production is 40,000. The difference of (50,000-40,000) 10,000 is Short Working.
Short Working: Short working is the excess of minimum rent over actual royalty. Short working is that amount by which the minimum rent exceeds actual royalty. Short working is calculated at the agreed rate on the actual output or sale is less than the minimum rent. Where there is a short working the lessee is liable to pay the minimum rent.
Short working Recoupment: Any short working (shortage) in the previous year is recoverable at any surplus royalty for preceding year by agreement, the process of adjustment of short working against surplus of royalty is called Recoupment of Short Working
