Tax Advantages to Oil and Gas Investments

[Posted on June 7, 2014 by Michael L. F. Slavin]

There are a myriad of tax advantages that accrue to governments and investors in the oil and gas  industry. These advantages arise from statutory provisions and legislation that are effectuated from time to time. Even with much legislation surrounding this industry, investors still get to enjoy the incentives that come through tax advantages. Here are various tax advantages resulting from periodic tax reforms made the congress to enhance the appeal of oil and gas investments.

Tax Deductions on Intangible Drilling Costs

According to FY2014 Budget Proposal, the industry incurs intangible costs ranging from sixty to eighty-five percent of the well cost in most oil and gas investments. This covers expenditure on grease, mud, chemicals and labor, which are usually excluded from the major cost calculations. These intangible costs are tax deductible in the first year whether drilling takes place or not. Intangible drilling costs are 100% deductible in the year of investment.

Tax Deductions on Tangible Drilling Costs

Tangible drilling costs refer to the total amount of money or capital investment allocated for equipment and wellhead. This amount is 100% deductible for the beginning of the project and the remaining cost is deducted as depreciation over the following specified number of years of the operations.

The Active and Passive Income Debate

Working interests in any oil and gas well can only be considered active activity and not passive. This means that it is possible to offset deductions against sources of income including stocks, business profits as well as salaries. This argument stems from the introduction of the reform act in 1986 where offsetting losses from passive activities is prohibited.

Marginal Wells Incentives

The legislative organ of the government passed a tax incentive bill to support small-scale gas and oil producers. The bill provides for a tax credit of nine dollars per day for each marginal well and further acts as a safety net that regulates reliance on Middle East for energy. These wells have the capability of pumping fifteen crude oil barrels every day and cater for the nation’s 25% oil supply and ten percent of the gas stocks.

The Minimum Tax Alternative

Before the introduction of the tax act of 1992, oil and gas industry investors were subjected to normal alternative minimum tax such that it exceeded their regular tax. The intangible cost was exempted from the list of preference tax exemption items such as intangible drilling, deductions on allowable depletions and development costs.

 Depletion Allowance Deductions

According to renowned tax advisors and analysts, a venture, enterprise or investor can recover the capital invested in the oil and gas property through depletion deductions. This allowable depletion deduction is important as it guarantees maximum tax advantage to the investor. In essence, the investor computes the allowable depletion deductions using either cost depletion method or percentage repletion method and benefits from the method that offers maximum tax reduction.

The percentage depletion allowance is also known as the small producer exemption and entails 15% allowance of the gas and oil producing property to be tax exempt. This means that for every gross income earning worth one million, only 950 thousand dollars will be taxed. This benefit does not apply to large companies with the production capacity of 1000 barrels as owners or 50000 barrels as refiners.

These types of tax advantages help make oil and gas investment appealing to new investors or those looking to diversify their portfolios. If you are considering this type of investment, explore your options with U.S. Emerald Energy, an experienced leader in the industry.

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