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In this article, I’m going to give you 3 big reasons to invest in Oil and Gas: Taxes. Most people think of investing in the big 3 oil companies when they consider investing in oil and gas. There is also a layer of diversification and dividends that come along with that type of investing as well.
However, buying shares of stock in Exxon, Chevron and Shell is still being invested in the stock market and diversification is only going as far as the stock portfolio will allow.
But, this is slightly different than buying shares on the open market. What we are discussing today is buying a working interest in an actual well that is operated by major oil corporations such as Exxon, Hess Corporation, Marathon, etc. and receiving royalties for the life of the well.
Intangible Drilling costs – Definition and Tax Benefits
Intangible Drilling costs (IDCs) embody costs associated with drilling and preparing a well for production. These costs are deemed
“intangible” as they have no salvage value, though they are crucial to the operation. Examples include mud and cement services,
inspection and testing fees, and other related costs. IDCs form a significant part of an oil or gas projects overall cost and, due to
provisions in the United States tax code, may be 100% tax-deductible in the first year, making them a strong tax advantage for investors.
One notable benefit is that investors may receive up to 40% of their principal investment back in the form of tax deductions in the first
year, courtesy of IDCs and other potential deductions, significantly lowering tax liability.
It’s an enticing tax break, often seen as one of the major tax benefits for oil and gas investors.
Moreover, IDCs fall under preference items which may influence the alternative minimum tax calculation for investors. Investors need to consider this alongside their personal tax situation, requiring competent tax advice to navigate.
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Gas Investments – Definition and Tax Benefits
Natural gas investments offer similar tax benefits and incentives as oil. Investing in gas projects by independent producers or gas companies in the United States can yield considerable tax benefits. One primary benefit is the tax-deductible nature of gas-related costs similar to IDCs in oil.
Moreover, gas investors have the privilege of a depletion allowance, which is akin to the depreciation on the gas wells and networks. With
statutory depletion, a fixed percentage, typically 15% of the gross revenue from a property, is tax-free. This allowance aids gas investors
in offsetting the cost depletion over time…
Related Article: Depreciation to Reduce Taxable Gains HERE:
Investors need to note that gas investments, like oil, are not passive income. They are a direct investment that can offset income from other sources like salaries or capital gains, leading to an overall reduction in tax payable. This ability to utilize losses to balance out other forms of income, makes investing in gas an attractive proposition for individual investors.
Gas investments also stimulate domestic energy production, aiding the federal government in its energy independence goals.
Passive Income, Tax Breaks, Tax Act
One notable benefit is that investors may receive up to 40% of their principal investment in monthly dividends in the first year. This
does NOT include the reduced tax burden courtesy of IDCs and other potential deductions, significantly lowering tax liability. It’s an
Enticing tax breaks is often seen as one of the significant tax benefits for oil and gas investors. Investments in oil and gas projects aren’t
considered “passive” activities under the U.S. tax code. They’re classified as “active income,” thanks to the Tax Reform Act of 1986. This
Classification enables investors to deduct losses from their oil or gas investments from their other active income, reducing the tax burden
using tax incentives.
Read this related article about depreciation HERE:
The concept of passive activities and their tax implications requires a deeper understanding of tax laws, and potential investors should
seek tax advice from their tax advisor.
Read this related article about passive income HERE.
Tax Reform Act
Moreover, the Tax Reform Act has provisions that exempt specific oil and gas operations from being deemed as “Passive Income” and
deducting it from taxable income. Investments in working interest allow tax benefits to be enjoyed not just by the wealthiest investors,
but also those in lower tax brackets.
This tax-advantaged investment opens up avenues for all types of investors to participate in the industry, fostering the growth of small
companies and independent oil producers.
Furthermore, the Act encourages domestic oil and gas exploration, aiming to reduce the U.S.’s dependency on foreign oil, thereby
boosting its economy.
Reduces Taxes AND Increases Income?
Investing in oil and gas may provide a robust addition to an investment portfolio, providing diversification benefits and tax advantages.
As always, investments should align with an individual’s financial goals and risk tolerance levels.
Remember, tax laws are complex, and the benefits described here depend on individual circumstances.
Always consider seeking advice from a qualified tax professional to understand the implications fully.
Always consult with a financial advisor, CPA, or CFP to make sure your financial plans align with your goals, risk tolerance and financial situation.
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