Tax Breaks for Your Oil and Gas Investments
The federal government provides tax incentives to help stimulate domestic natural oil and gas production. The more domestic production, the less dependent the country is on foreign energy resources. Tax benefits to individual oil and gas investors can be significant, and these aren’t workarounds or loopholes in the law. These are legitimate investment deductions written into the U.S. Tax Code, making an oil and gas portfolio rich in tax-advantaged investments.
A few of the notable tax advantages are listed below. For more information, check the U.S. Tax code at http://www.fourmilab.ch/ustax/ustax.html.
Intangible Drilling Cost Tax Deduction
The intangible expenditures of drilling, which include labor, chemicals, mud and the like, typically represent 70 to 80 percent of the cost of running a well. These expenditures are referred to as “Intangible Drilling Cost (IDC).” These expenses are 100 percent deductible the first year meaning your initial investment could see deductions worth nearly 80 percent of your total investment. Deductions are available the year the money is invested regardless of when the well begins drilling. (Tax Code Section 263)
Tangible Drilling Cost Tax Deduction
Tangible drilling costs include all investment dollars allocated to the equipment involved in drilling. This is also 100 percent deductible. Tangible Drilling Costs may be depreciated over a seven-year period. (Tax Code Section 263)
Active vs. Passive Income
The Tax Reform Act of 1986 introduced “Passive” income (i.e. earnings from rental properties, limited partnerships, etc.) and “Active” income (i.e. income, salary, etc.). Passive activity losses may not be offset against Active income. However, a Working Interest in an oil and gas well is considered “Active” income and, as a result, may be offset against income from stock trades, salary and the like. (Tax Code Section 469(c)(3))
Small Producers Tax Exemption
This unique exemption allows 15 percent of gross income from an oil and gas producing property to be tax free. This incentive, call the “Percentage Depletion Allowance,” is not available to large oil companies, retail petroleum marketers or refineries that produce more than 50,000 barrels per day; or for entities with more than 1,000 barrels of oil (or 6,000,000 cubic feet of gas) average daily production.
In addition. all lease costs including lease purchases, minerals, sales and legal expenses, accounting and Lease Operating Costs are 100 percent deductible through cost depletion.
The above is intended as general tax code information. It should not be comprehensive or instructive for the purposes of personal investment or taxation. Please consult the US Tax code and/or your personal financial advisor for more details.