Why Invest in Oil & Gas? The Tax Advantages

Why Invest in Oil & Gas?

Why Invest in Oil & Gas? Investing in Oil and Gas offers investors an alternate opportunity to capitalize on a highly sought-after resource that is extensively used across numerous industries.

Examples: Transportation, heating, cooling, manufacturing, and other energy-intensive operations.

The development of Oil and Gas from domestic reserves reduces the United States’ reliance on foreign Oil imports. As a result, the United States government offers tax advantages to Oil and Gas investors in order to promote production and drive economic growth. The U.S. government introduced various incentives to encourage domestic energy production, recognizing the strategic importance of oil and gas.

How Oil & Gas Investments Can Potentially Reduce Taxes for Investors:

By claiming deductions for specific expenses associated with well exploration and development, Oil and Gas investors have the ability to reduce their taxable income, thereby potentially resulting in reduced overall tax obligations.

Furthermore, there are tax credits available to individuals who make investments in new Oil exploration or similar endeavors, enabling them to claim a credit towards their income tax obligations. Also, under specific conditions, investors in Oil and Gas ventures are eligible to have a portion of their profits exempt from taxation under provisions of the United States tax code. Consult your tax advisor for more detailed information.

Examples of Potential Advantages of Investing in Oil & Gas:

Following the implementation of the Tax Reform Act of 1986 (the “Act”), Oil and Gas ventures continue to be among the few investments that qualify for tax advantages for American taxpayers. In fact, working interests in Oil and Gas are exempt from the Act’s definition of “passive income.” The Oil and Gas industry is eligible for the potential tax advantages listed below:

  • Intangible Drilling Costs:
    • Up to 100% tax-deductible during the first year.
  • Tangible Drilling Costs:
    • Up to 100% tax-deductible.

  • Depletion Allowance:

    • 15% of gross production revenue is tax-free.

  • Active Income Deductions:

    • Can be deducted against business income, salaries, capital gross, interest income, etc.

Why Invest in Oil & Gas Potential Advantages

Intangible Drilling & Development Costs—Tax Deductions:

The phrase “intangible drilling cost” (IDC) refers to well-drilling and well-completion costs that usually don’t have a physical component. The reason these expenses are called “intangible” is because no tangible asset, like supplies or machinery, is produced during their creation. Mobilization charges, drill pipe rental fees, rig and crew wages, site preparation expenses, mud and cement services, testing and inspection fees, land access fees, hauling services, and other associated costs are a few examples of IDCs.

A large portion of the investment is considered an IDC, which may be 100% deductible during the year paid. The nature of the drilling project will determine the amount of an IDC tax deduction there will be. This incentive has been in place since the 1916 Revenue Act.

Tangible Drilling & Development – Tax Deductions:

The term Tangible Drilling Development and Completion Cost (TDC) refers to the tangible elements used in drilling and well completion, such as drill bits, pipes, casings, and cement. These products are meant to last for a number of years before they need to be upgraded or replaced because of shifting market conditions.

Due to the nature of the asset, the entire amount of an investment assigned to TDC may be amortized and depreciated over a period of 5-7 years and eligible for Bonus Depreciation. TDC provides investors in Oil and Gas with precise data that helps them assess potential returns on their investments, evaluate the cost-effectiveness of various drilling projects, and safeguard themselves against unforeseen costs associated with a particular endeavor.

Depletion Allowance:

Tax benefits were extended to the average investor in Oil and Gas drilling projects by the Tax Reform Act of 1986. This concept was first introduced in 1926, allowing oil and gas producers to deduct a percentage of their gross income from oil and gas wells, compensating for the depletion of reserves. Subject to certain restrictions, this “Small Producers Exemption” permits 15% of an investor’s gross income from an Oil and Gas property to be tax-free. Large corporations, taxpayers who sell natural Oil or Gas through retail channels, or those who refine crude Oil with daily runs of more than 50,000 barrels are not eligible for the tax benefit. Additionally, investors with more than 1,000 barrels of Oil or 6,000,000 cubic feet of Gas produced on a daily average are not eligible. Drilling operations carried out by the Joint Venture qualify for “Percentage Depletion” tax benefits. If applicable, each investor should claim the “Small Producers Exemption” on their annual tax return.

Active Income Deduction:

The terms “active” and “passive” income were first used in the Tax Reform Act of 1986. Oil & Gas Investments are NOT Passive Income. Losses from passive activities cannot be offset against profits from active businesses according to the Act. A working interest in an Oil and Gas drilling program is not considered “passive” activity, according to the Act. Deductions can therefore be used to offset other income sources like salaries and business income.

Again, here are the potential benefits of investing in Oil & Gas:

  • Intangible Drilling Costs: Up to 100% tax-deductible
  • Tangible Drilling Costs: Up to 100% tax-deductible (5-7 years).
  • Depletion Allowance: 15% of production revenue is tax-free.
  • Active Income Deductions: Can be deducted against business income, salaries, capital gross, interest income, etc.

 

Why Invest in Oil & Gas? Hypothetical Example

If you have any questions relating to investing in Oil & Gas, feel free to reach out to our team.

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Because investor situations and objectives vary this information is not intended to indicate suitability for any individual investor.

Oil and gas mineral royalty Interests are illiquid investments, are speculative and involve a high degree of risk; investors should be able to bear the complete loss of their investment. In addition, the oil and gas market is affected by many factors, such as general economic conditions, oil and natural gas pricing, financing markets, supply and demand, and other factors that are beyond an Offeror’s control. All these factors could restrict an investor’s ability to sell their mineral/royalty interests.

This is for informational purposes only, does not constitute individual investment advice, and should not be relied upon as tax or legal advice. Please consult the appropriate professional regarding your individual circumstances.

Securities offered through Concorde Investment Services, LLC (CIS), member FlNRA/SIPC. Advisory services offered through Asset Strategy Advisors, LLC (ASA), an SEC registered investment adviser. Insurance services offered through Asset Strategy Financial Group, Inc. (ASFG). CIS, ASA and ASFG are separate companies.

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