Intangible Drilling Costs Overview and Tax Advantages

Intangible drilling costs (IDCs) are the costs of drilling an oil well that are unrelated to the final operating well. This includes the costs to drill, shoot, or clean a well, prepare the site for drilling, and construct the physical facilities necessary to drill and prepare the well for production. Typically, around 60-80% of the drilling test investment consists of intangible drilling costs. Some examples of intangible drilling costs include survey work, ground clearing, drainage, wages, fuel, repairs, and supplies.

These intangible drilling costs are important to consider because they contribute to a significant portion of oil drilling investments and are 100% tax deductible in the year incurred. A key benefit of investing in the oil and gas industry comes from the tax deductions such as those associated with IDCs. Many high-net-worth, accredited investors are drawn to the sector due in part to these substantial tax advantages.

To learn more about IDCs and the considerable tax benefits that come with investing in the Oil and Gas industry, contact the Crown Exploration team today!

Intangible Drilling Costs (IDC): Overview, Example*

By Will Kenton

What Are Intangible Drilling Costs (IDC)? 

Intangible drilling costs (IDC) are expenses related to developing an oil or gas well that are not a part of the final operating well. They include costs that are necessary in the drilling and preparation of wells for the production of oil and gas, such as survey work, ground clearing, drainage, wages, fuel, repairs, and supplies.

Broadly speaking, expenditures are classified as intangible drilling costs if they have no salvage value. Intangible drilling costs are tax-deductible.

Understanding Intangible Drilling Costs (IDC) 

The U.S. has offered a tax deduction for intangible drilling costs since 1913 in order to attract investment capital to the high-risk business of oil and gas exploration. The deduction is allowed only for wells within or offshore the U.S.

According to the Committee for a Responsible Federal Budget, this makes 60% to 80% of total drilling costs tax-deductible. The group indicates that this is one of the largest tax breaks available to the oil industry. It also reports that it is a rare case of a tax deduction that can be taken in its entirety in the year the costs are incurred. Most similar corporate tax breaks are spread out over five years.

The Industry View 

The industry is, of course, a strong supporter of the tax break. The expense deductions "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," according to the Independent Petroleum Institute of America, an industry group.

The institute notes that the tax deduction encourages investment and reinvestment in new oil and gas exploration. It also points out that many other industries, from agriculture to technology, have comparable deductions for research and development costs.

A taxpayer who elects to deduct expenses for intangible drilling costs must declare the costs for the taxable year in which the expenses were paid or incurred.

Example of Intangible Drilling Costs 

Say Company OIL is proceeding with a plan to develop a new oil well. Many costly steps are required before the oil pump starts up. They involve hiring people to conduct surveys, clear the ground area so that the well can be built, and build adequate drainage. People have to be hired to do all this. Since none of these are costs for the actual drilling equipment, and they have no salvage value after the well is no longer functioning, they are labeled as intangible drilling costs.

*To read the full blog article as it appears on the Investopedia website, click the following link: https://www.investopedia.com/terms/i/intangible-drilling-costs.asp