How Music Royalties Work

The first thing we need to do is distinguish between recording-artist royalties and songwriter/publisher royalties.

In The Internet Debacle - An Alternative View, Janis Ian, a singer/songwriter, states:

She's referring to the fact that recording artists and songwriters do not earn royalties in the same way. Recording artists earn royalties from the sale of their recordings on CDs, cassette tapes, and, in the good old days, vinyl. Recording artists don't earn royalties on public performances (when their music is played on the radio, on TV, or in bars and restaurants). This is a long-standing practice that's based on copyright law and the fact that when radio stations play the songs, more CDs and tapes are sold. Songwriters and publishers, however, do earn royalties in these instances -- as well as a small portion of the recording sales.

The only current instance in which artists earn royalties for "public performances" is when the song is played in a digital arena (like in a Webcast or on satellite radio), is non-interactive (meaning the listener doesn't pick and choose songs to hear), and the listener is a subscriber to the service. This came about with the Digital Performance Rights in Sound Recordings Act of 1995. This act gave performers of music their first performance royalties.

We'll go into more detail about the types of licenses and royalties later in this article. But first, let's look at song copyrights.

Copyrights are very important because they identify who actually owns the song and song recording and who gets to make money from it. When songwriters write songs, the songs are automatically copyrighted as soon as they are in a tangible form (like a recording, or fixed as printed sheet music). In order to sue for copyright infringement, however, the song should be registered with the copyright office at the Library of Congress. Registration should always be done before the song is set loose in the public domain (available to hear on a Web site, etc.).

As copyright owner, you have the right to reproduce the copyrighted song, to create derivatives or variations of the song, to distribute it to the public, to perform it publicly, and to display it publicly. (Although we're not sure how you "display" a song.) If you have recorded the song with yourself as the artist, then you also hold the sound recording copyright (a different animal entirely) and have the right to publicly play or "perform" that recording by means of a digital audio transmission.

Copyright licenses

By giving someone a license, you are giving him permission to use your song. Once the song has been recorded and publicly distributed, however, compulsory licensing kicks in and everyone who wants to cover (record) the song can do so without your specific permission. They are required by law to pay you a statutory royalty rate, however, as well as notify you that they're going to release it, and send you monthly royalty statements. They are NOT allowed to make any changes to the words or melody or change the "fundamental character of the song" without the copyright owner's approval. If the song is changed, it is considered a "derivative work." Record companies rarely use compulsory licensing because they don't want to have to provide monthly royalty statements. Instead, they go to the copyright owner and get a direct license so they can negotiate the terms more freely.

Shared copyrights

If you write the lyrics to a song and your buddy writes the music, then you each own 50% of the song. You don't own all of the lyrics and your buddy doesn't own all of the music -- you each own 50% of the total song, music, lyrics and all. This means you can't give someone exclusive rights to the song on your own if you have a fight with your buddy. And, if you make any money on the song, half of that money must go to your partner.

Other forms of shared copyrights come into play when you or your publisher (typically you give control of the song's copyright to the publisher) sign over a portion of the copyright to another publisher for a sampled composition -- a song that uses a portion of another song.

Transfer of copyrights

In most music publishing agreements, there is a requirement that the songwriter assign the copyright of the written song to the publisher. This is known as a "transfer of copyright," or simply "assignment." This, in effect, transfers ownership of the song to the publisher in exchange for the payment to the songwriter of royalties in amounts and time intervals agreed upon in the publishing contract. Typically, song copyrights are held by the music publishers, while sound recordings are controlled by the record companies.

The major players in the recording industry are:

Licenses and their corresponding royalties fall into four general categories:

In addition to these royalties, the Audio Home Recording Act of 1992 brought about yet another royalty payment for songwriters and performers. This act requires that the manufacturers of digital audio recording devices and the manufacturers of blank recording media (blank cassette tapes, blank CDs, blank DVDs, etc.) pay a percentage of their sales price to the Register of Copyrights to make up for loss of sales due to the possible unauthorized copying of music. There are two funds set up where this money is funneled. One is the Sound Recording Fund, which receives two-thirds of the money. This money goes to the recording artist and record company. The other fund is the Musical Works Fund, which receives the remaining one-third of the money to split 50/50 between the publisher and the songwriter.

Foreign Royalties

The licenses we mentioned above (mechanical, performance, synchronization, and print) are also issued for the use of U.S. copyrighted material in foreign countries. The foreign agents, or sub-publishers, are responsible for managing the licenses in their countries and paying royalties to the songwriter and U.S. publisher.

Let's look at an overly simplified example of how the major players we've talked about work together to produce the music you hear on the radio, buy on CDs, or download (legally) from the Internet.

A songwriter writes the lyrics and melody for a song. The songwriter records that song in his basement and sends the tape to the Library of Congress to register the copyright. Even though he knows it is automatically copyrighted when he set it in a fixed form (put it on paper and/or recorded it), he is registering it because he's sure this song has the makings of a hit, and he wants to head off any infringement problems up front.

Now, although this songwriter has recorded his own vocal version of the song, he's humble enough to know that it probably won't go very far with his voice croaking it out. In walks the publisher. Our songwriter signs a single-song agreement with a publisher who will pitch the song to the record labels. Publishers are in the business of finding and exploiting new music by issuing mechanical licenses to recording companies or others who want to use the song in some fashion. In exchange for this "administration," the publisher gets 50% of the mechanical royalties for each recording sold (minus several things they have to pay for first, which we'll talk about in the next section).

Let's say that a major record label likes the song and has the perfect recording artist to sing it. They fill out a mechanical license agreement through the Harry Fox Agency and obtain rights to record the song. The song is recorded and is promoted heavily. It becomes a hit. Now, who is making money? The songwriter and publisher split mechanical royalties 50/50 for each recording sold, and the recording artist also gets a mechanical royalty for each recording sold (although that deal is set up differently).

In addition to the mechanical royalties, however, our songwriter and publisher are also paid performance royalties, which means they make money based on how often the song is played on the radio, in restaurants or bars, or in other types of broadcasts. These royalties are monitored, collected, and paid out by a performing rights organization like ASCAP, BMI, or SESAC; our artist is paid by the organization with which he registered the song. For subscription digital "performances," the recording artist now gets paid royalties as well.

Now, let's say that a movie producer is working on a new movie and wants to use the song in a scene. Now the song is moving into the realm of synchronization royalties (where music is used in conjunction with video). When a songwriter's work is synched with a scene in a movie, played over the credits at the end of a movie, or used in a television show or commercial, the songwriter and publisher are paid a negotiated fee to use the song in the movie as well as performance royalties when the movie is shown on TV or in theaters in foreign countries. If the movie uses the specific recording of your song (known as a "master") made by the artist who made the song famous, then that artist will receive a regular royalty percentage from the fee the movie company negotiates with the record company as well as mechanical royalties if there is a movie soundtrack produced. The songwriter and publisher will also receive mechanical royalties from sales of a soundtrack.

So as you can see, a lot of people are making money off of our songwriter's creative efforts.

Record companies and recording artists, as well as the writers and publishers, all make money based on the sale of recordings of their songs. How those royalties are calculated, however, is about as intricate and controversial as everything else in the music industry.

Writer/publisher mechanical royalties

First, there is the calculation of mechanical royalties for writers and publishers. These royalties are paid by the record company to the publisher. The publisher then pays the writer a share of the royalty (typically split 50/50).

In the United States, the royalties are based on a "statutory rate" set by the U.S. Congress. This rate is increased to follow changes in the economy, usually based on the Consumer Price Index. Currently, the statutory rate is $.08 for songs five minutes or less in length or $.0155 per minute for songs that are over five minutes long. So, for example, a song that is eight minutes long would earn $.124 for each recording sold.

As in most areas in the business world, however, there is room for negotiation. It is not uncommon -- in fact, it is more the norm -- for record companies to negotiate a deal to pay only 75% of the statutory rate, particularly when the writer is also the recording artist. (See the "Controlled Composition Clause" below.) Although there is a statutory rate, there is no law against negotiating a deal for a lower one. Sometimes it is in the best interest of all parties to agree to a lower rate.

Recording-artist mechanical royalties

Recording-artist royalties (and contracts) are extremely complex and a hotbed of debate in the music world. From the outside, the calculation appears fairly simple. Artists are paid royalties usually somewhere between 8% and 25% of the suggested retail price of the recording. Exactly where it falls depends on the clout of the artist (a brand new artist might receive less than a well-known artist). From this percentage, a 25% deduction for packaging is taken out (even though packaging rarely costs 25% of the total price of the CD or cassette).

That sounds simple enough, but there are many more issues that affect what a recording artist actually makes in royalties.

So, here is how it looks so far. Let's say a CD sells for $15. Right away we deduct 25% from that for packaging, which makes the royalty base $11.25. Now let's say our artist has a 10% royalty rate and that his CD sells one million copies. That sounds great! The artist would earn $1,125,000! Except 10% of those were actually freebies, so we really have to calculate that royalty based on 900,000, which makes the royalty $1,012,500, and of course, there are few costs we haven't talked about yet.

Advances and recoupment

Typically, when recording artists sign a recording contract or record a song (or album), the record company pays them an advance that must be paid back out of their royalties. This is called recoupment. In addition to paying back their advance, however, recording artists are usually required under their contract to pay for many other expenses. These recoupable expenses usually include recording costs, promotional and marketing costs, tour costs and music video production costs, as well as other expenses. The record company is making the upfront investment and taking the risk, but the artist eventually ends up paying for most of the costs. While all of this can be negotiated up front, it tends to be the norm that the artists pay for the bulk of expenses out of their royalties.

Let's see what these recoupable expenses do to our artist's $1,012,500 royalty we calculated earlier. Suppose the recording costs were $300,000 (100% recoupable), promotion costs were $200,000 (100% recoupable), tour costs were $200,000 (50% recoupable), and a music video cost $400,000 (50% recoupable). That comes out to:

$300,000 + $200,000 + $100,000 + $200,000 = $800,000

Suddenly our artist isn't making a million plus, he's making $212,500. But don't forget there is also a manager to be paid (usually 20%), as well as a producer and possibly several band members. The artist won't see any royalty money until all of these expenses are paid.

Controlled-composition clause

So far, it sounds like the money isn't in making the music, it's in writing it. While this is a true statement, controlled-composition clauses make it less fair to folks who are both the songwriter and recording artist of a song.

A controlled composition is a song that has been written and/or is owned by the recording artist. Because mechanical royalties paid to songwriters and publishers are not recoupable by the record company, meaning the record company can't deduct any expenses from them, record companies usually negotiate into the singer/songwriter's contract that the mechanical royalty rate he will receive as the songwriter/publisher will be 75% of the usual amount. In other words, as the writer of a song you record yourself, you get 25% less royalty money than you would get for writing a song that someone else records. But you'll get performance royalties when the song is played on the radio, TV, etc.

Internet royalties

With the explosion of the Internet and the ease of downloading music onto your computer, a whole new royalty arena has opened up in recent years. Record companies usually treat downloads as "new media/technology," which means they can reduce the royalty by 20% to 50%. This means that rather than paying artists a 10% royalty on recording sales, they can pay them a 5% to 8% rate when their song is downloaded from the Internet. In the case of downloaded music, although there is no packaging expense, many record company contracts still state that the 25% packaging fee will be deducted.

An alternative to this royalty payment method also exists for Internet music sales. While it is most often used by Internet record labels, it may still catch on as recording artists begin to push harder for it in their contracts. This other method creates an equal split of the net dollars made on music downloads between the record label and the artist. This net figure is arrived at after the costs have been deducted, including costs of the sale, digital rights management costs, bandwidth fees, transaction fees, mechanical royalties to songwriters/publishers, marketing costs, etc.

How are performance royalties tracked and calculated? Remember that performance royalties are tracked and paid out by the performance rights organizations like ASCAP, BMI, SESAC, and SoundExchange.

The royalty trail begins when the song is registered with one of the three performing rights organizations mentioned above. Once a song is registered, it becomes part of that PRO's collection and is available to all of its users. Most of those users have a "blanket license" to use any or all of the PRO's music, however some users license on a per program basis and only pay for the music they actually use. (This is good for users who don't use that much music.) The PROs deduct money for their operating expenses and the rest goes to the songwriters and publishers.

PRO customers include just about anyone who plays music in a public place -- even those who play "hold" music for their business. These include television networks, cable television stations, radio stations, background music services like MUZAK, colleges and universities, concert presenters, symphony orchestras, Web sites, bars, restaurants, hotels, theme parks, skating rinks, bowling alleys, circuses, you name it -- if they play music, they have to have a license and pay royalties.

Tracking the playlists

The difficult thing to imagine in all of this is how these organizations track all of that music to get an accurate record of how much royalty money needs to be paid to which songwriters and publishers. Each of the PROs use a slightly different system for calculations; we'll use the ASCAP system as an example. ASCAP uses two methods for determining performances: it either counts them or does a sample survey.

For television performances, ASCAP depends on cue sheets that program producers provide them, as well as program schedules, network and station logs, and even tapes of the broadcasts. ASCAP developed its own computer program to help studios and program producers report performances.

For radio performances, ASCAP does a sample survey of all radio stations, including college stations and public radio. To do this, it uses a digital tracking system, station logs provided by the radio stations, and recordings of the actual broadcasts.

For live performances, ASCAP reviews set lists provided by concert promoters, performing artists, and others. In the case of symphony performance information, the printed programs are submitted.

Licensed Internet sites, circuses, theme parks, etc. provide ASCAP with their own music use data.

Others that use music, like restaurants and bars, are not surveyed and simply pay a flat rate that is distributed based on trends in local radio stations (based on the type of music).

Show me the money!

ASCAP's royalty calculations are based on a system of credits. Here is an example of how the money is calculated based on the ASCAP system.

First, some general information: ASCAP weights different factors in order to come up with a song's total "credits" and a fair royalty calculation. For example, the song is weighted based on the type of performance (theme, underscore, or promotional); this is known as the use weight. A song that is featured and sung by a recording artist on TV or radio gets more weight than one that was played as background music during a radio commercial. The licensee (radio station, TV station, etc.) is weighted based on its licensing fee, which in turn is based on the licensee's markets and number of stations carrying its broadcast signal. There is a weight applied to the time of day the music is performed (particularly in television). Music played during peak view/listener times receives more weight.

ASCAP also uses a follow the dollar factor, which means that songwriters and publishers are paid based on the medium from which the money came. For example, money paid out from radio stations is paid for radio performances. A general licensing allocation is figured for fees that ASCAP collects from bars, hotels and other non-broadcast licensees. These fees are distributed to songwriters and publishers based on similar radio and TV broadcasts of the individual songs. In other words, they estimate that restaurants and bars are playing the songs at a similar rate as the local radio and TV stations.

Here is an example of the calculation that ASCAP uses to determine the number of credits a song title has:

The total number of credits is multiplied by the shares for the song (how the royalties are split between writers and publishers). This number is multiplied by the credit value for the song. The value of one credit (credit value) is arrived at by dividing the total number of credits for all writers and publishers by the total amount of money available for distribution for that quarter. For example, if there are a total of 10 million credits for a quarter, and there have been 35 million dollars collected for distribution that quarter, then the value of one credit for that quarter is $3.50.

The final number is the royalty payment. Here is how it works:

Royalty payments are made quarterly.

These calculations are quite difficult and vary somewhat between each of the three PROs. Visit their Web sites (links are the end of this article) for additional information on how these royalty payments are calculated.

Internet royalties

For Webcasts and other digital performances, SoundExchange was formed to collect and distribute those performance royalties. Just as in traditional media, broadcasters of digital performances of music must pay royalties to the songwriters and publishers of the music they play. Because of the Digital Performance Right in Sound Recordings Act of 1995, however, they must also pay royalties to the recording artists. SoundExchange collects electronic play logs from cable and satellite subscription services, non-interactive webcasters, and satellite radio stations. They then distribute the royalty payments directly to artists and recording copyright owners (usually record labels) based on those logs.

For more information on music royalties and related topics, check out the links on the next page.