Download IDCs PDF Show What are IDCs? Quite simply, Intangible Drilling Costs (IDCs) represent all expenses an operator may incur at the wellsite that don’t – by themselves – produce a physical asset for the producer. In the oil and natural gas business, those costs include things like labor and site preparation, renting drilling rigs – costs that have no salvage value after they are spent. The standard IDC tax deduction – which has been around in one form or another for 100 years — allows producers to recover those investment costs quickly and reinvest them in exploring for, and hopefully producing, new American oil and natural gas supplies. Since 1913, IDCs have allowed producers to invest literally hundreds of billions of dollars in finding and delivering new energy that might not have been available without them. For America’s 7,000-plus independent oil and natural gas producers (who drill more than 90 percent of the nation’s wells), IDCs can be deducted in the year they are spent or spread over 60 months. Independent producers are in the business of exploring for and producing oil and natural gas. The integrated companies (who have marketing or retail operations like gasoline stations) must amortize 30 percent of IDCs over 60 months and can deduct the remaining 70 percent in the year they are spent or spread them over 60 months. Drilling a well does not guarantee resource production; the IDCs deduction enables America’s independent oil and gas producers to continue exploring even when a well is unsuccessful and reinvesting production revenues when they are. Independent producers reinvest as much as 150 percent of their US cash flow in new US projects. This investment and reinvestment in America’s vibrant oil and natural gas production sector supports the small businesses and the countless other industries and consumers who benefit from affordable, secure American energy.  Do Other Industries Get IDCs? The terminology might be different, but IDCs are just like tax deductions available to many American industries – to farmers for fertilizer and to technology companies for research and development. Even bakeries have deductible costs. Their supplies—sugar, flour, eggs—are all tax deductible raw materials, along with labor costs. No matter the industry, these are all upfront costs facing nearly every American small business owner with no guaranteed return on investment. In fact, IDCs are no different than costs that are immediately deductible under the general tax law that applies to all business losses – vital deductions, not government handouts, that help American businesses. Why Are IDCs Important For America? IDCs were put in place to reflect the deduction of expenses specifically for oil and natural gas production – and that’s just what they do. Removing this 100-year-old tax provision from the code would not only strip away roughly 25 percent of the capital available for independent producers to continue looking for new oil and natural gas, but also diminish the many economic benefits created by those activities. Independent producers support over 4 million direct, indirect, and induced jobs – in the lower 48 states alone – while providing billions in revenue and taxes. In 2010 alone, onshore upstream taxes amounted to $67.7 billion. This is the eleventh post in our blog series, The Tax Break-Down, which will analyze and review tax breaks under discussion as part of tax reform. Our last post was on the
American Opportunity Tax Credit, which provides a credit for undergraduate tuition. Intangible drilling costs are one of the largest tax breaks available specifically to oil companies, allowing companies to deduct most of the costs of drilling new wells in the United States. In order to determine taxable income, U.S. businesses can normally deduct expenses from revenues so
they are only taxed on profits. Under normal income tax rules, a company that pays expenses in order to make future profits would need to deduct the expenses over the same time period as profits. The costs for drilling exploratory and developmental wells would need to be deducted as resources are extracted from the well. The break for intangible drilling costs (IDCs) is an exception to the general rule. Independent producers can choose to immediately deduct all of their intangible
drilling costs. Since 1986, corporations have only been able to deduct 70% of IDCs immediately, and must spread the rest over 5 years. Intangible drilling costs are defined as costs related to drilling and necessary for the preparation of wells for production, but that have no salvageable value. These include costs for wages, fuel, supplies, repairs, survey work, and ground clearing. They
compose roughly 60 to 80 percent of total drilling costs. The deduction for intangible drilling costs has been permitted since the beginning of the income tax code, in order to recognize the risks involved in drilling developmental wells—not every well strikes oil. Only IDCs associated with domestic or offshore wells may be
deducted; foreign wells cannot be expensed in this way. How Much Does It Cost? According to the Joint Committee on Taxation (JCT), the tax break for intangible drilling will cost roughly $1 billion in 2013, and $16 billion over the next decade. This is the largest tax preference specifically for oil and gas and totaled about 8 percent of the total value of tax preferences for energy and natural resources in 2013. In contrast, expensing for exploration and development costs for nonfuel minerals (like coal) will cost $0.1 billion in 2013, and $1 billion over the next decade. What are the Arguments For and Against the Deduction for Intangible Drilling Costs? Supporters of the deduction argue that oil and gas and exploration and development is a high-cost industry, and allowing expenses to be recovered immediately encourages companies to invest. They explain that altering the deduction could result in job losses, since wages are included in the deduction. More broadly, supporters point out that the oil and gas industry receives the same treatment that other manufacturing or extractive industries receive, and are merely a target because of the now-controversial nature of reliance on fossil fuels. Finally, supporters of energy independence often support the IDC deduction, as it promotes further exploration and development of wells within the United States. Opponents argue that since this tax provision was introduced over a hundred years ago, technology has advanced to the point where dry wells are less of a problem. The success rate of striking oil (or gas) is about 85%, which means producers are spending less on exploring wells that won’t become profitable. More generally, opponents say that oil prices are expected to remain high, and that demand continues for oil and other fossil fuels. They believe there is no need to subsidize an industry that is already booming. What are the Options for Reform? President Obama has continually proposed repealing the break for intangible drilling costs in his yearly budgets, a proposal also suggested by Senator Sanders and Representative Ellison. Fully repealing this tax break would raise $14 billion through 2023, though importantly would largely represent a timing shift, and raise only about $100 million in 2023 alone. A number of other tax reform plans, including the Domenici-Rivlin plan, the Simpson-Bowles plan, and the Wyden-Gregg/Coats plan would also repeal the preference for IDCs. Alternatively, the deduction could be repealed for most wells, but still allow a company to deduct costs for unproductive dry wells, raising $10 billion. Or, the deduction could only be eliminated for the five biggest oil companies, raising $2 billion over ten years. If the deduction were repealed, drilling costs would need to be treated like other depletable property, deducted over the life of the well.
Where Can I Read More? Read more posts in The Tax Break-Down here. TagsTrendingInflation is currently surging at the fastest rate in more than four decades, with the Consumer Price Index (CPI) up 8.2 percent over the past year and Personal Consumption Expenditure (PCE) price... Read more What is an intangible drilling cost?Intangible drilling costs are defined as costs related to drilling and necessary for the preparation of wells for production, but that have no salvageable value. These include costs for wages, fuel, supplies, repairs, survey work, and ground clearing. They compose roughly 60 to 80 percent of total drilling costs.
Which of the following oil and gas direct participation program has the highest risk?The investor partners with a company that drills wells in an already-proven area. Exploratory Drilling Program – considered as a 'high risk, but high reward' kind of investment. This could also be thought of as the riskiest kind of program.
How do I report intangible drilling costs?Intangible drilling costs are usually reported on a K-1 and then flow to Schedule E, p. 2. You can choose to deduct the full amount in the current year or amortize them. Enter the information as if you received a K-1 from a partnership -- the joint venture.
Which oil and gas program has the least capital risk?Investing in existing reserve projects is another way to get started with oil and gas investments. With this investment option, you invest in a property that has proven oil or gas reserves. This investment option has the least amount of risk as there is no guesswork involved in investing in such reserves.
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Which of the following are considered intangible drilling costs IDCS for an oil and gas DPP?
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