We provide services to customers using a product sold by a company we are partnering with. We negotiated a contract where we provide those services at a reduce rate and the company pays us a royalty on sales of the product as compensation for the reduced service rate. Our auditors have told us that the income we receive from these royalty payments is taxable as ordinary income rather than at the lower tax rate for royalties, but we are struggling to understand why.

accounting contracts tax income-tax royalty

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