How To Report Income From An Oil & Gas Lease
As the old adage goes, there are only two things in life that are certain: death & taxes. If you have earned any income from your oil and gas lease, you are required to report this income to the IRS. Whether the income is from royalty payments or bonuses, you are responsible for reporting this income to the IRS every year. However, how you file your oil and gas income with IRS depends on your particular situation. Use these guidelines as your starting point.
Income as an Individual
The drilling company pays a percentage of the money made from oil and gas from your property. The money goes to whoever holds the right to extract gas or oil from the property. These payments are called royalties. The IRS treats royalties as regular income.
To report royalty income, you will have fill in Schedule E as well as your Form 1040. If you have received income from royalties, use Form 1099-MISC at the end of the year.
Report all other payments you receive as well. This includes rent payments for your lease and bonuses you received as part of the agreement. Record your lease bonus as rent on Schedule E. The lease bonus is most often paid upfront but can also be spread over several years. Again, use Form 1099-MISC to handle this. Delay rentals, which are paid if the drilling company hasn’t started work, must be reported as well.
Write-offs and expenses
The most important write-off you have to deal with is depletion. This is due to the fact that your land loses value as the gas is extracted. Depletion is an effective way to reduce your taxable income. This also serves as a way to account for the reduction of the reserves. As an individual, you report depletion as a royalty expense. You will use Schedule E for this purpose.
If you choose to sell your property, your profit becomes capital gain. When the IRS taxes your profit, you will also have to pay depletion recapture tax. That’s because the IRS expects that you pay back the write-off you got due to depletion.
If you’re self-employed and taking part in the drilling work, the process is different. You will have to file Schedule C to report your income. Depletion will be deducted from your tax as an interest expense. You should also deduct your operating expenses. For instance, legal and administrative costs are deductible.
Keep in mind that there are many intricate details in a lease agreement. It’s usually best to use expert services to manage the process. Otherwise, you may end up with a bad agreement that binds you for a very long time.
You should also be aware that the legislature keeps changing. If you don’t understand all the legal implications, you will struggle. As a smart choice, you should work with people who know what they’re doing.
MAJR Resources Inc. can help you with all aspects of negotiation related to land titles. With over a decade of experience, you can be sure that you’ll get service built around your needs. Our landmen are highly qualified. They are committed to providing you with superior results. Get in touch now to see how the team at MAJR Resources Inc. can be of help to you.