oil/gas exploration lease income

Discussion in 'Tax' started by effi@ev1.net, Jan 31, 2005.

  1. Guest

    hypothetical:
    taxpayer receives prepaid lump sum lease payment to cover 3
    year period wherein lessee will drill (exploration) to try
    and find oil/gas

    what kind of income is the lease payment (schedule e rental
    income?)and is it reported all in the year of receipt, or
    taken into taxable income over the 3 years?

    how would destruction of property (clearing of trees for
    drilling site, etc.) be reported by lessee? is tax basis of
    property adjusted?

    would it be typical for the lessor drilling company to pay
    for the value of trees cleared and any other property
    destruction, in addition to lease payments paid to lessor
    over the 3 years?

    if oil and/or gas is found by lessee, under agreement lessor
    would get a fraction of the total produced as income. what
    would be the nature of that income and how would it be
    reported on individual federal income tax return?

    any other relevant issues not raised herein regarding this
    kind of scenario?

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    , Jan 31, 2005
    #1
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  2. wrote:

    > what kind of income is the lease payment (schedule e rental
    > income?)and is it reported all in the year of receipt, or
    > taken into taxable income over the 3 years?


    Lease bonus is a royalty, not eligible for percentage
    depletion, taxable in the year of receipt.

    > how would destruction of property (clearing of trees for
    > drilling site, etc.) be reported by lessee? is tax basis of
    > property adjusted?


    Surface damages reduce basis of the property covered by the
    payment, and are capital gains to the extent they exceed
    basis.

    > would it be typical for the lessor drilling company to pay
    > for the value of trees cleared and any other property
    > destruction, in addition to lease payments paid to lessor
    > over the 3 years?


    Yes, but value as they see it and value as you see it may
    differ. The payment is surface damages (see above).

    > if oil and/or gas is found by lessee, under agreement lessor
    > would get a fraction of the total produced as income.


    That would be a royalty interest.

    > what would be the nature of that income


    Ordinary.

    > how would it be
    > reported on individual federal income tax return?


    Schedule E, as a royalty, eligible for percentage depletion.

    > any other relevant issues not raised herein regarding this
    > kind of scenario?


    You may have some state issues; Oklahoma allows small
    producers 22% percentage depletion. I don't know how
    hypothetical your scenario is, but around here, it's
    relatively unusual for the person who owns the top of the
    land (where the house is) to also own the mineral interests.

    Phoebe :)

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    Phoebe Roberts, EA, Feb 2, 2005
    #2
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