Reducing Oil & Gas Taxes with Expert Tips

It is easy to miss an opportunity to save on taxes while navigating the related sea of tax code. My takeaway from speaking with Andy was that success depends on two factors: (1) hiring great tax specialists, and (2) keeping very detailed and reliable financial records.

Andy’s Joke: Why was the accountant excited to complete the jigsaw puzzle in only 59 weeks?  Because the box says 8-12 years.

Question 1: Are there any new regulations for the 2023 income tax filing that oil & gas companies should be aware of?

Andy: The biggest change this year is that equipment placed in service on January 1, 2023 and later can no longer take 100% bonus depreciation. This has been scaled back to an 80% deduction for the first year. This reduces total business expense and increases taxable income.

Question 2: What is the biggest mistake on taxes that you see energy companies making?

Andy: One of the most common mistakes I see is mis-identifying assets.  When oil and gas companies place assets in service, it is common to see a ledger thousands of lines long that make up those assets. Different assets have different depreciation methods.  It is easy to classify assets into the wrong category, and thereby use the wrong depreciation method, possibly missing out on deductions. To illustrate, intangible drilling costs (costs incurred to complete the drilling of an oil well, excluding the above the ground equipment) are fully deductible in the current year.  If those costs are labeled as equipment costs, they could be limited to being only 80% deductible. Worse still, they could be capitalized as part of the leasehold value for land development and not get depreciated at all. This can make a huge difference in tax deductions.

Question 3: What could every company in this industry change about their financial reporting to optimize their tax position?

Andy: I would say be meticulous about how you record your assets.  Specifically, track how long you’ve held them. If you do not have good records, upon sale, it is difficult to determine if the gains should be considered to be long term (which have favorable tax rates) or short term.

Question 4: What oil & gas tax deductions do many companies miss out on?

Andy: A great deduction is for depletion.  A depletion deduction can be taken against oil and gas income sort of as depreciation is taken on a tangible asset.  There are two methods to calculate it and professional tax advice on how to properly calculate and maximize it is necessary. However, unlike with tangible assets, depletion deductions can in certain cases be taken in excess of your basis and carried forward. This tax deduction is a great perk.

Another tax deduction that is very beneficial to oil and gas investments is the expensing of intangible drilling costs, or “IDCs”. For GAAP purposes IDCs are capitalized.  However, for tax purposes, IDCs are 100% deductible in the year of cash expenditure.  That’s why it is imperative to keep good records and properly classify assets. If you don’t identify your IDCs in the financials, you tax team won’t be able to make use of this great deduction for tax purposes.

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