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An overriding royalty is an interest in an asset that provides rights of participation which allow the investor to enjoy a royalty that is above and beyond the basic royalty that he or she is entitled to as part of the compensation for the investment. Unlike the basic royalty, the investor with an overriding royalty has the right to receive payments that are not encumbered by any operational or developmental costs associated with the investment. A royalty of this type is usually limited by specific terms and conditions and is not considered a type of royalty that is ongoing.
One of the more common examples of an overriding royalty can be found with investments in oil and gas fields. In this scenario, the investor does receive basic royalties that are associated with the investments, but may also receive the additional royalty based on what is known as the working interest. For example, the investor may receive an overriding royalty that is connected with a lease on a specific field, based on the revenue that is generated by that field during the course of that lease. The royalty payments continue throughout the duration of the lease, but cease once that lease has expired.
Another characteristic that distinguishes the overriding royalty is that the compensation tendered to the investor is not based on the revenue remaining after operational costs have been calculated and extracted from the gross revenue. Instead, this type of royalty is determined based on the actual gross revenue that results from production in the field that is subsequently sold to buyers at current or better market prices. For as long as this temporary royalty remains available, the investor is able to collect both the overriding and the basic royalty payments, with the balance of each calculated based on different criteria.
It is important to keep in mind that the proceeds of the overriding royalty are very different from the royalties that result from ownership of the minerals that are located under the ground of the field. The terms of the lease on the field entitle the investor to royalties based on what is produced by the field only, and not on what remains below ground. This means that if there is no production in the field, there are no overriding royalties due. In addition, the ability to collect an overriding royalty ceases once the lease governing the agreement between the owner and the lessor has expired.