Secondary Royalties

The defining feature of a true secondary royalty system is its enforceability via smart contract logic. The royalty percentage and recipient address are programmed into the token's smart contract (e.g., ERC-721 or ERC-1155). This code automatically diverts a specified portion of the sale proceeds from the marketplace contract to the creator's wallet upon any secondary sale, making it trustless and mandatory for compliant marketplaces.

Royalty functionality is implemented through specific function calls in token standards. Key standards include:

• ERC-2981 (NFT Royalty Standard): A widely adopted Ethereum standard that provides a uniform way to retrieve royalty payment information for a given token and sale price.
• Creator Fee Encoding: Protocols like EIP-2981 or platform-specific implementations (e.g., Manifold's Royalty Registry) store the royalty details, allowing marketplaces to query and respect them. This standardization is crucial for interoperability across different marketplaces and wallets.

The royalty mechanism abstracts the fee payment from the buyer and seller. The marketplace's settlement contract calculates the royalty amount based on the sale price and the on-chain parameters, then splits the payment in a single transaction:

• Net to Seller: Sale price minus royalty and marketplace fee.
• Royalty to Creator: The programmed percentage sent directly.
• Fee to Marketplace: Their commission. This happens atomically, ensuring the creator is paid before the seller receives funds and the buyer receives the asset.

A critical distinction exists in how royalties are applied:

• Enforced (On-Chain): Royalties are a hard-coded requirement of the asset's sale. Marketplaces that bypass them are considered non-compliant or must use specialized, non-standard sale mechanisms.
• Optional (Off-Chain/Policy-Based): Royalty payments are a policy of specific marketplaces (e.g., a creator 'profile' setting) but are not enforced by the asset's smart contract. Sellers can often circumvent these by using alternative platforms, making them unreliable for creators.

The recipient of royalties is not always a single wallet. Smart contracts allow for complex, automated distribution schemes:

• Split Contracts: Royalties can be automatically divided among multiple parties (e.g., artist, studio, licensor) using a payment splitter contract.
• DAO Treasuries: Funds can be directed to a decentralized autonomous organization's treasury for community governance.
• Revenue-Share Tokens: Royalty rights themselves can be tokenized and traded separately from the underlying NFT, creating a secondary market for future revenue streams.

The efficacy of secondary royalties depends on marketplace compliance. Key challenges include:

• Marketplace Fragmentation: Not all marketplaces honor the same standards, leading to royalty evasion on non-compliant platforms.
• Protocol-Level Enforcement: Some blockchains (e.g., Rarible Protocol) or Layer 2 solutions build royalty enforcement directly into their core trading logic.
• Selector-Based Bypasses: Sophisticated users may use custom sale contracts that ignore royalty functions, though this often violates the terms of service of major platforms and can lead to asset blacklisting.

The primary technical mechanism for enforcing royalties is the royalty fee extension in a smart contract. The dominant standard is ERC-2981, a universal interface for NFT royalty information. Key features include:

• Standardized Interface: A single function (royaltyInfo) returns the recipient address and fee amount.
• On-Chain Enforcement: Marketplaces that integrate the standard can programmatically respect and pay royalties.
• Flexibility: Allows for percentage-based or fixed-fee royalties, specified in basis points (e.g., 500 bps = 5%).

Marketplaces implement royalty policies through different technical and social enforcement models:

• Hard Enforcement: Royalties are mandated by the marketplace's smart contract logic, blocking sales that bypass fees (e.g., early Blur model).
• Soft Enforcement: Royalties are optional; marketplaces may filter or penalize collections that opt out (e.g., post-2023 OpenSea model).
• Protocol-Level Enforcement: The blockchain or NFT protocol itself enforces fees at the transaction layer, making them unavoidable (e.g., Tezos FA2 standard).

Several methods exist to circumvent traditional royalty structures, prompting new mitigation strategies:

• Bypass Vectors: Direct peer-to-peer transfers, use of non-compliant marketplaces, or wrapping NFTs into different smart contracts.
• On-Chain Enforcement Tools: Projects use transfer hooks or blocklist functions to restrict transfers to non-compliant marketplaces.
• Creator-Centric Models: Alternative models like EIP-5218 (Creator Airdrops) or dynamic royalties that adjust based on sale price or holder duration.

On Ethereum and compatible chains, royalty implementation is fragmented:

• Legacy Methods: Many collections used custom, non-standard supportsInterface checks or marketplace-specific registries.
• ERC-2981 Adoption: Becoming the canonical standard, but adoption by marketplaces and existing collections is gradual.
• Layer 2 Considerations: Royalty logic must be correctly deployed and recognized on scaling solutions like Arbitrum, Optimism, and Polygon.

Solana enforces royalties primarily through its Token Metadata Program. Key attributes are stored in a standardized on-chain account:

• Centralized Authority: The update authority for the metadata can set a royalty basis points and payout wallet.
• Programmable Enforcement: Marketplaces interacting with the program can read and enforce these fees.
• Creator Split: Allows specifying multiple recipient addresses and their share percentages directly in the metadata.

In response to royalty challenges, new economic models for creator compensation are emerging:

• Protocol-Level Fees: A small fee on all trades within a specific ecosystem (e.g., Magic Eden's universal royalty model).
• Primary Sales Focus: Shifting monetization to initial mint with mechanisms like Dutch auctions or bonding curves.
• Access & Utility: Royalties are replaced by recurring revenue from access to gated content, services, or physical goods tied to the NFT.

The most robust method for enforcing royalties is to embed the logic directly into the smart contract of the asset itself. This is typically done via a transfer hook or a royalty registry that checks a sale and diverts a percentage of the sale price to the creator's wallet before the transaction is finalized. This method is native to standards like ERC-2981 for fungible royalties and is a core feature of many newer NFT standards designed for creator empowerment.

Most secondary royalty systems historically relied on voluntary compliance by marketplaces. The creator's royalty percentage is stored in the token's metadata, but the marketplace's trading contract must be programmed to read it and execute the payment. This creates a centralization risk, as marketplaces can choose to ignore the parameter, leading to the royalty enforcement problem where creators lose a primary revenue stream.

Enforcing royalties introduces economic friction. Key considerations include:

• Secondary Market Liquidity: High royalty fees can disincentivize high-frequency trading and arbitrage, potentially reducing market depth.
• Creator vs. Collector Incentives: While creators seek sustainable revenue, collectors may prioritize asset liquidity and lower transaction costs.
• Fee Abstraction: Some protocols absorb royalty fees to maintain listed prices, subsidizing the cost to avoid shocking buyers, which impacts the platform's economics.

This is the central security challenge: ensuring royalty payments are unavoidable. Solutions and workarounds include:

• Blocklist/Allowlist Systems: Smart contracts that restrict transfers to non-compliant marketplaces.
• Token Gating: Making utility or access contingent on holding NFTs traded with royalties.
• Protocol-Level Enforcement: Networks or overarching protocols that mandate royalty logic for all transactions within their ecosystem, removing marketplace discretion.

ERC-2981 is a pivotal technical standard that provides a standardized way to retrieve royalty payment information for non-fungible tokens (NFTs). It defines a smart contract function (royaltyInfo) that returns the recipient address and the royalty amount for a given sale price. While it standardizes the information, it does not enforce the payment; enforcement remains the responsibility of the integrating marketplace or protocol.

In response to enforcement challenges, ecosystems are exploring alternative models:

• Primary Sales & Mint Fees: Shifting focus to robust, one-time revenue during initial distribution.
• Protocol Revenue Sharing: Allocating a portion of a platform's overall transaction fees or token inflation to creators.
• Dynamic Royalties: Royalty rates that change based on time, sale price, or holder status, programmed directly into the asset's contract.