Hi, I made some money this year that is putting me in a higher tax bracket! I know nothing. What mineral tax deductions can I use? I found the depletion perk yesterday…anyone have any insight? or what have you found and use? Thank you
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I deduct the Texas Property Tax and turbo tax figures the depletion based estimate. Not sure what percentage it uses but I think there is a customary one? Not sure.
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15% of the gross royalty is not customary, it is by statute.
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You have an option of cost or percentage depletion. You can also deduct advalorem taxes, severance taxes, and other direct production related costs. It is a simple process, but you may want to have a credible accountant offer some tax oversight.
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I just recently figured out the depletion perk as well. Turbo tax didn’t do it automatically, nor did my professional tax accountant. I asked the tax accountant to amend my taxes and I got a tax credit. I too have been looking for a good tax write off ! So far the only advice I got from a tax professional was to invest in a rental property.
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As a practical matter, since cost depletion requires knowledge of reserve volumes, which is typically proprietary information held by the operator, most royalty owners just take % depletion which is easy to calculate. However, many royalty owners miscalculate their depletion deduction to their detriment, by multiplying their net royalty (cash received) by 15%. The correct calculation is 15% times their gross royalty (as reported on the 1099), and which includes severance tax and post production expenses. Here’s a simple example:
Bob receives $800 of net royalty and multiplies that by 15% to calculate a depreciation deduction of $120. He has net taxable royalty income of $680.
Bob’s correct calculation would be to report gross revenue of $1000, less $150 severance tax, less $50 post production expense ($800 net revenue); and calculate the depletion by multiplying $1000 times 15%. He has a depletion deduction of $150, resulting in net taxable royalty of $650.
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Keep in mind that all depletion taken reduces your basis in the minerals until the basis is zero. So if you basis is 1,000 and you take 100 depletion, then your basis is 900. Same thing the next year, basis of 900 less depletion.
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I don’t believe that is correct. Ask your CPA.
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I have kept careful tax records for years by individual property. Deduction of depletion is specified under federal tax code and has been the law for many decades.
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You have the option to claim either cost or percentage depletion. Most mineral/royalty owners elect for percentage depletion due to the simplicity. Cost depletion requires that you know your cost in the property, reserves at the start and end of year, and production for the year. This can be very helpful in high decline rate horizontal wells in the initial years, but less helpful in the remaining years. Even if you fully deplete the cost, percentage depletion will be available for any remaining years. If you have a low cost in the property, percentage depletion tends to be the best option.
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Hello Rutledge,
you get a depletion allowance. it can be cost or percentage. most probably use percentage depletion. cost is complicated. if you use turbotax, just let turbotax do it for you.
depreciation is for tangible assets, not minerals. nope - you don’t get both :>)
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@TennisDaze percentage depletion does not reduce the basis in the property. Not sure about cost depletion. In fact I seem to recall upon sale of a cost-depleted property there is no need to recapture the cost depletion taken. Cost depletion is extremely complicated and beyond the ability for most royalty owners to calculate correctly for lack of reserve data. If one decides to take the cost depletion method be sure to consult an oil and gas tax expert.
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Donald, You do not have working knowledge of the Internal Revenue Code (IRC) regarding oil and gas. I refer you to IRC Section 1016(a)(2) which specifically provides for the reduction in basis for depletion allowed as deduction on a tax return. Royalty owners can deduct the higher of cost depletion or percentage depletion on their tax returns, subject to certain limitations which rarely affect them. Most royalty owners do not have the reservoir engineering information required for cost depletion calculations and so use percentage depletion. IRC Section 613A. IRS Publication 551 (12/2022) Basis of Assets, under Adjusted Basis – Decreases to Basis states “The following are some items that reduce the basis of property. Deductions previously allowed (or allowable) for amortization, depreciation, and depletion.” Here is the link https://www.irs.gov/publications/p551
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The reduction in basis continues until the basis is zero. The mineral owner can continue to claim percentage depletion and the basis remains at zero. Upon sale, there is no recapture of depletion deduction. If the basis is zero, then mineral owner recognizes 100% of the sale price as long term capital gains.
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This was really my main point and I agree with what TennisDaze says about the reduction of basis.
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hey, thanks, i need easy!
hi, im the poster and would like to know why and what comment you think is wrong? thank you
Just trying to keep it easy, but its also easy to get bogged-down in the details. The details are important also.
May comments are not intended to be legal advice. Always consult a qualified legal professional.
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hi Donald i have a question if you know of a certain law here is the jist,“” there was a law in place in Texas that benefied the mineral rights holders that was apparently changed in 1963 or 1964. Not sure of the details of this law but have been told through the grapevine that original family members that still own their mineral rights have special benefits because of being grandfathered into the old law. can you think of anybody that would know about this? thank you.
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What about different producing or non-producing formations within the lease tract or tracts? Is the depletion different? Or does one formation in production apply to the entire tract and formations?