NYC CPA tax advice for those operating a business in the natural resource industry. Natural resource businesses have some specific federal tax issues that we would like to highlight and encourage you to discuss with us in person. Contact our office to make an appointment.
Mine exploration, development, and production. Taxpayers can amortize mining exploration expenses over 10 years, provided the ore or other mineral being sought would qualify for percentage depletion. Alternatively, taxpayers can also elect to claim a current deduction for domestic exploration expenses (other than oil and gas). If this election is made, the taxpayer must recapture the deductions when the mine reaches the production stage or is sold.
Development begins at the stage that mineral deposits have been discovered in a quantity that justifies commercial development. Development is the advance costs of mining the deposit. Development expenses can be amortized and deducted over 10 years or as the resource is sold. In the latter case, the taxpayer elects to treat development expenditures as deferred expenses, to be deducted on a ratable basis as units of the produced ore or minerals are sold.
Since development expenditures do not have to be recaptured, it is better to incur expenses in the development stage than the exploration stage. However, expenses for exploratory drilling from a producing mine for a different ore deposit are exploration expenses, not development.
The owner can deduct expenses incurred both in the development and production stages. If the owner defers development expenses and then leases the mine subject to a royalty, the owner can deduct deferred expenses against royalty income.
Depletion. Cost depletion is the equivalent of depreciation. It allows a taxpayer with an economic interest to recover his or her actual cost basis over the expected life of the deposit, in proportion to the quantity sold each year. Percentage depletion is an alternative to cost depletion. The depletion allowance may be computed on either the cost or percentage basis, whichever is higher. Percentage depletion varies depending on the mineral and is taken when income is received. Percentage depletion cannot exceed 50 percent of the property’s taxable income (100 percent for oil and gas).
Percentage depletion is generally not available for oil and gas wells, except for: natural gas from geopressurized brine; natural gas sold under a fixed contract or government price regulation; production within the U.S. by independent producers and royalty owners (but not refiners or retailers).
Production and royalty payments. A production payment is a right to a specified share of the production from minerals, oil, and gas, or a specified share of the proceeds. A production payment is generally treated as a loan, not as an economic interest in the property, except that a production payment retained in a lease is treated as ordinary income subject to depletion. If the payments are not production payments, they are royalties. An overriding royalty is a royalty received from a sublessee of property, by the operating company that originally leased and developed the property
Mine safety. A taxpayer may elect to expense up to 50 percent of the cost of qualified mine safety equipment in the year placed in service, rather than capitalize the amount. Mine safety equipment includes communications, oxygen generation, location devices, and atmospheric monitoring systems. Deductions are subject to recapture. Employers are entitled to a credit for mine rescue team training expenses incurred in a tax year beginning before January 1, 2014. The credit is 20 percent of the costs during the year, up to a maximum of $10,000.
Oil and gas expenses. The principal types of oil and gas expenses include intangible drilling and development costs (IDC), tertiary injectant costs (TIC), and geological and geophysical exploration expenditures. Operators or oil, gas and geothermal properties can currently deduct, capitalize or amortize their IDC. TIC are generally deductible. Exploration costs generally must be amortized.
Taxpayers can elect to currently deduct IDC by deducting them in the year incurred. An integrated oil company must reduce its deduction by 30 percent. Alternatively, operators can amortize their IDC over 60 months. Costs that are not expensed or amortized are recovered through depletion or depreciation. IDC incurred for nonproductive wells can be deducted, even if previously capitalized.
IDC include expenses for wages, fuel, repairs, hauling, supplies, and others that are necessary for the drilling of wells and their preparation for production. They do not include expenses to acquire tangible property, or for “intangible” items connected to the operation of wells.
To encourage expensive tertiary enhanced oil recovery processes, TIC are generally deductible. Injectants can include natural gas, crude oil, and items that include those substances. These costs are treated as amortization deductions and thus are subject to recapture.
Special deductions. A tax credit is available for the production of oil and gas from marginal wells. The credit is $3 per barrel of oil and 50 cents per 1,000 cubic feet of natural gas. The manufacturing deduction, otherwise known as the domestic production activities deduction (DPAD), applies to a range of activities, including oil and gas. Special DPAD rules are provided to allow partners of an in-kind partnership (that produces oil or natural gas) or an “oil and gas partnership” to claim the deduction.
Excise taxes. An oil spill tax of eight cents per barrel funds the Oil Spill Liability Trust Fund and applies to domestic crude oil received at a U.S. refinery, and domestic crude used in or exported from the United States. Importers of petroleum products also owe the tax. Under current law, the tax will increase to nine centers per barrel for 2017, but the tax applies only through the end of 2017. There also is a fuel excise tax on gasoline, diesel fuel, and other fuels. The fuel tax may be imposed at the manufacturer’s level, on sales to a distributor, or at the retail level.
Timber. Some special rules apply to timber located in the U.S. Timber owners can take cost depletion for the decline in the content of their timber tracts (but not percentage depletion). Sales of timber are treated as capital gain (or loss) if the taxpayer owns the timber for more than one year, or held a contract to cut timber for more than one year. Reforestation expenses up to $10,000 can be deducted; amounts over $10,000 must be amortized over seven years. Reforestation expenses are direct costs in connection with forestation or reforestation.
Our nyc cpa accounting firm has highlighted only some of the many federal tax laws that impact oil and gas and other natural resource companies. Every business is unique and has particular tax considerations in New York City. Please Contact our CPA NYC office so that we can set a time to discuss your business in more detail.