Mineral rights were inherited in 1994 and 2004. Saw a suggestion that you take the crude price adjusted for inflation for the year inherited and the year sold and the difference is the capital gains… would that work as follows… 94 rate was $27.25 and 2019 was $50.01… thus the difference is $22.76… thus 22.76/ 50.01 = 44.5%… so if the sale was for 1,000,000 then the capital gains would be 445,000… does anyone have an opinion on this
I was under the impression that capital gains were 15% of the sales price minus purchase price. Say you inherited a producing property and it was valued at 100,000. You sell for 1,000,000. That’s a 900,000 dollar capital gain. That’s how it was explained to us by a CPA.
Thanks… I understand how that works… I’m a cpa… and for this amount the capital gain rate is actually 20%. But my issue is determing the cost … this is inherited property… so I’m wanting feedback on if taking the difference in the inflated price of oil is a valid method to determine cost… capital gains rate goes from 0 to 20%
“Back in the old days”, the price was sometimes set as the value of the last four years of oil royalties and the last seven years of gas royalties for old vertical wells. That is a loopback method but requires excellent bookkeeping of the old records which almost no one has.
The best way to do it is to do the evaluation immediately after the date of death and using the oil and gas prices for the date of death get an engineering fair market value of the wells producing at the time and any already spud but not completed wells as of the date of death and estimating the value of the uncompleted wells based upon nearby wells. Not many folks do that.
The other way to look at it is to look up the deeds from the acreage that sold close to the date of death nearby that is similar in production reservoir. The amount of the document stamps can be used to estimate the value of the sales price if the net acres are included in the deed (not the gross acres).
None of these are particularly easy to reconstruct.
Great post Ann, we’re you able to able to get a resolution on the “stepped up” basis issue. I’m in the same boat myself looking for answers regarding this issue.
I found a chart that gave the price for crude oil and inflation value for the years involved. I took the inflated value and the current value for month it was sold and calculated the difference. I then took the difference between the two and divided it by the original value of the year inherited. That gave me the % profit… So then I took made an algebraic equation x = base so then x + %x = amount received so from that I calculated the base
The inflated price of oil is not the way that a backward looking mineral appraisal is done.
Oil prices are vary greatly over the years, as you can see from historical charts. You cannot just look at two points in time. If a property is producing, then the appraisal is based on the decline curve, estimated future life of the well in years, the price of oil and gas at the date of death, a factor of price increase over the years and the future income stream is calculated at its present value. If the minerals are non-producing, then an appraiser will look at lease bonus rates or other available data in the area.
Alternatively, a comparison is made to comparable sales at the time, as discussed above. A price-inflation method would inflate the basis value in 1994 and 2004. At those values, then an estate tax return would have to have been filed.
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Like any valuation model, you need to make assumptions about the future. In this case, you are, however, you’re making assumptions about the future as if you were living in the past. I.E. in 1994, would it have been reasonable to assume 1 or 2 vertical wells were drilled and produced your minerals? What were nearby wells drilled around then producing? What would that royalty revenue be worth at a reasonable rate of return? Anyone can run this analysis based on publicly available data, but ultimately it probably makes more sense to have a professional do it for you.
To get you started on the right track, I suggest you review Treas. Reg. Section !.611-2(d)(2) for the market approach (comparable transactions) and if such transactions cannot be found then review Treas. Reg. Section 1.611-2(e)(e), which is the income approach and that you should strongly consider a professional who knows how to apply the income approach because at the end of the day, the taxpayer will have the burden of proof to establish his or her basis in the property as of the date of death if the executor has not already done so.
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