Oil and Gas Drilling

[Roseman]

An 80 years old lady owns 100 acres of vacant land which an oil company wants to drill a gas well and pay her $160K plus yearly royalties. I had this same situation years ago but can not find the source for my answer. I think I found that the $160K for the drilling just gets offset against the cost basis of the property if she sells later on and of course the royalties are reported on her tax return subject to depletion expense. Can anyone confirm this or let me know what the correct procedure is or where to find the answer. Thanks for any help that anyone is able to give.

[Koss]

Basis

It sounds like you are asserting that the payment of $160K is a nontaxable recovery of her cost basis in the land. And that may be the case.

My question is what is she giving up in exchange for $160K? You refer to "the $160K for the drilling," but it's not clear to me what that means. Is she selling part of the land? Probably not. She's selling the right to drill the land, but she's not giving up title to the real estate itself.

Is it an easement?

That actually fits well with the notion of reducing her cost basis in the land...

BMK

[jimmcg]

An 80 years old lady owns 100 acres of vacant land which an oil company wants to drill a gas well and pay her $160K plus yearly royalties. I had this same situation years ago but can not find the source for my answer. I think I found that the $160K for the drilling just gets offset against the cost basis of the property if she sells later on and of course the royalties are reported on her tax return subject to depletion expense. Can anyone confirm this or let me know what the correct procedure is or where to find the answer. Thanks for any help that anyone is able to give.

What does the contract say is the legal consideration for the $160K? Is it the forfeiture of the mineral rights in the real property, an advance on future royalty payments, or what?