CHAPTER 11 SHARING THE WEALTH: MINERAL ROYALTIES IN KIND
| Jurisdiction | United States |
(Mar 1985)
SHARING THE WEALTH: MINERAL ROYALTIES IN KIND
Arnold & Porter
Denver, Colorado
TABLE OF CONTENTS
Page
I. Introduction
II. Historical Background of Royalties in Kind
III. Sample Flow Charts
A. Alluvial Mining
1. Clean up
2. Size Separation
3. Processing and Refining
B. In Situ Mining and Processing
C. Underground and Open-Pit Mining
1. Mining
2. Processing
IV. Miscellaneous Royalty Considerations for Precious Metals
A. Price Setting and Dollar Equivalents
B. Variable Rate Royalties
C. Costs
D. Security
E. Commingling
F. By-products
G. Products With Unique or Special Values
V. Tax Considerations
A. In Kind Payments as Royalty
B. In Kind Payments for Working Interests
VI. Conclusion
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I. Introduction
As far back as Roman times, landowners have requested a portion of the metals removed from their property as payment for the right to mine. The original "royalty" was a royalty in kind. The type of in kind royalty most frequently used in modern times has been for payment of placer gold royalties. Within the last decade, the lifting of restrictions on the private right to hold gold, as well as renewed interest in gold mining, has caused a resurgence of the provision for in kind royalty.
While the principal emphasis of this paper is on the issues raised in drafting an in kind royalty provision for gold leases, problems inherent in taking other mineral products are also addressed. Sample flow charts illustrate which products in the mining process are most amenable to in kind delivery.
In addition, miscellaneous royalty considerations such as the commingling of ores, the treatment of by-product ores, and the division of specimen quality ores are examined. Many of the considerations applicable to any precious metal lease encounter special complications in a situation involving in kind royalties.
The paper concludes with a brief review of tax considerations, since favorable tax treatment is a primary incentive for receiving gold payments in kind.
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II. Historical Background of Royalties in Kind
The practice of taking mineral royalties in kind can be traced to ancient Roman law.1 Gratian, Emperor from 375 to 383 A.D., first memorialized the practice by issuing a decree on imperial mining rights, by which the right to receive a portion, usually a one-tenth part, of the product from all mines, except gold and silver mines, was reserved.2 The portion reserved was payable directly to the emperor by the mine worker. This antecedent of the present-day royalty in kind was called the Canon Metallicus.3
One definition for the word "royalty" is the "prerogatives, rights, or privileges pertaining to, or enjoyed by, the sovereign."4 The application of the English word "royalty" to payments of or for minerals developed from the concept of "royal mines" in England. Mines of gold and silver were the "exclusive property of the crown" and the right to receive these metals was a royal prerogative.5 While the English crown's right to gold and silver mines originated in Roman law,6 these rights were also supported by the crown's pragmatic need to use the material in coinage7 and the "dignity of rank" of the
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crown which justifies allocation to it of "most excellent things."8
Royalties in kind were first introduced into American law through the crown grants to the colonies. Clauses inserted into almost all such grants reserved for the sovereign a certain fixed proportion of the royal metals discovered.9 Likewise, based more upon the force of precedence than upon economic considerations,10 the fledgling United States government claimed royalties in kind in 1785 when the Continental Congress reserved a one-third part of all gold, silver, lead, and copper mines.11 The sovereign right to minerals or royalties on the products of mines was abandoned, however, by the Act of July 26, 1866,12 which declared all mineral lands of the public domain free and open to exploration and occupation, subject to such regulations as may be prescribed by law.13
The reservation of a royalty in kind payable to the lessor was "very usual in leases of metallic veins"14
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both in England and in the early years of mining in the United States. Historically, its most common application was to placer gold.15
The resurgence of gold mining began in Russia in 1744 and continued into the 1800's. In 1823 a commission was formed to take charge of the hunt for gold and to draw up regulations. California's gold rush commenced with the discovery of gold at Sutter's Mill by James Marshall in 1848. Gold was discovered in Australia by Edward Harmon Hargraves in 1850, and George Harrison is given credit for discovering the main gold-bearing conglomerate in Africa in 1886. The Klondike rush began with the discovery of gold on the Yukon River by Robert Henderson and George Washington Carmack in 1896.16
These gold rushes in the late nineteenth century stimulated the settlement of virtually untouched territories throughout the world. The gold produced from these rushes also had an impact on the financial centers of Europe.17 By 1914, fifty-nine countries were on a gold or gold-exchange standard.18
However, an "era of crisis" for gold began with the stock market crash in 1929.19 "In order to provide for the safer and more effective operation of the national banking system and the federal reserve system...,"20 Franklin D. Roosevelt declared a national emergency and placed restrictions upon the right to hold
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gold in 1933.21 Later in that year, Roosevelt and his advisors began to fix a daily price of gold in an attempt to push the price up gradually to help bring the United States out of the Depression.22 By January 1934, when this gradual approach proved inadequate, Roosevelt raised the price of gold to $35 per ounce from the old price of $20.67.23 This increase in the price of gold gave an enormous stimulus to the gold mining industries of the world. After World War II, however, the price of gold remained fixed at the 1934 standard causing a decline in the industry.24
In 1967, the gold standard was lifted,25 and in 1974, Gerald R. Ford removed the restrictions on holding gold which had remained in effect for forty-one years.26 The combination of these factors has led to volatility in the gold market which has encouraged the modern-day revival of provisions for the payment of royalties in kind.
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III. Sample Flow Charts
For unknown mineral properties, the exploration agreement and option may be preferable to a mining lease. An exploration agreement and option reduces the risk of entering a lease in which the required landowner compensation may later prove to exceed the value of the property.27 However, if a mining lease is appropriate, the party drafting it should be familiar with all details of a pending transaction. This familiarity is essential for the accurate drafting of the royalty clause in the lease.28
Because an in kind royalty constitutes a portion of the actual mineral product, delivery and storage of these products could significantly affect mine economics. It is important for the party drafting a lease to define the product to be taken, as well as the manner of division. The best source of this information is typically the project engineer or geologist.29
To familiarize the practitioner with some of the data received from engineers and geologists, simplified flow charts are attached here. These charts depict the stages and products which could result from operations in one of the "four principal types of mining": alluvial or placer, in situ or solution, open pit, and underground.30
Alluvial or placer mining extracts ore from placer deposits such as unconsolidated river beds or sand dunes. In situ or solution mining involves the dissolution of minerals in place underground. Open pit and underground
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mining are principally used for "hardrock" deposits. Sometimes the latter two methods are both used on the same ore body. Because the ores obtained from open pit and underground mining are often subjected to similar processing methods, the discussion of both will be combined here.
The lawyer or landman drafting a lease should customize the form to fit the circumstances of each particular property or project. If an in kind provision is requested, the analyses here can serve as a generalized checklist of considerations for preparing the clause. It is important to remember that the objective is to be specific but also to allow for flexible construction. Even with the best of data, many variables enter into a mining operation, and there may always be uncertainty in the ultimate form of the operation.31
A. Alluvial Mining.
Alluvial or placer mining will receive the most extensive treatment here. In kind provisions are particularly popular for intrinsically valuable materials, such as gold and silver, and these metals are often found in placer form.32 About two-thirds of Alaska's total gold production has come from placer deposits.33
1. Clean up.
Many placer operations employ dredges, loaders, or hydraulic water hoses to move unconsolidated gravels into processing equipment. Basic size separation occurs as the gravels are sprayed with water and pass across screens and sorters. Oversize material is moved along by conveyor belts and deposited into dumps. Finer gold-bearing materials flow with the water through sluice boxes or jigs. By gravity concentration, gold, gold alloys, and other heavy minerals settle in the riffles or grooves
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and mats.* At selected intervals, the water is shut off, and "clean up" of the riffles and mats occurs. "Clean up" is a stage in the process during which in kind royalties are commonly delivered.
For security reasons, the lessor may want the option to be present at, or to send an agent...
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