59E election - Oil & Gas

[Vgene]

I have a client who just bought into a working interest of an oil and gas drilling operation. Part of the information received from the company under a heading of "Tax Savings" mentions a "59E election". The article vaguely state that this "election also allows for carry-forward of the deductions over a five or ten year period in even dollar amounts".

What is a 59E election? I have researched CCH and nothing comes up. (I do not see anything under code section 469 or 612 that deals with investment benefits of oil and gas. Thanks in advance!

[jimmcg]

Internal Revenue Bulletin 2005-4 (available at www.irs.gov) gives good information regarding final regs relating to the optional ten year writeoff of certain tax preference items under Sec 59(e) of the Code.

[Bees Knees]

What is a 59E election? I have researched CCH and nothing comes up. (I do not see anything under code section 469 or 612 that deals with investment benefits of oil and gas. Thanks in advance!

If you looked up section 469 and 612, why didn't you look up Section 59(e)?


IRC Section 59(e)
(e) Optional 10-year writeoff of certain tax preferences
(1) In general
For purposes of this title, any qualified expenditure to which
an election under this paragraph applies shall be allowed as a
deduction ratably over the 10-year period (3-year period in the
case
of circulation expenditures described in section 173) beginning
with
the taxable year in which such expenditure was made (or, in the
case
of a qualified expenditure described in paragraph (2)(C), over the
60-month period beginning with the month in which such expenditure
was paid or incurred).
(2) Qualified expenditure
For purposes of this subsection, the term ``qualified
expenditure'' means any amount which, but for an election under
this
subsection, would have been allowable as a deduction (determined
without regard to section 291) for the taxable year in which paid
or
incurred under--
(A) section 173 (relating to circulation expenditures),
(B) section 174(a) (relating to research and experimental
expenditures),
(C) section 263(c) (relating to intangible drilling and
development expenditures),
(D) section 616(a) (relating to development expenditures),
or
(E) section 617(a) (relating to mining exploration
expenditures).
(3) Other sections not applicable
Except as provided in this subsection, no deduction shall be
allowed under any other section for any qualified expenditure to
which an election under this subsection applies.
(4) Election
(A) In general
An election may be made under paragraph (1) with respect to
any portion of any qualified expenditure.
(B) Revocable only with consent
Any election under this subsection may be revoked only with
the consent of the Secretary.
(C) Partners and shareholders of S corporations
In the case of a partnership, any election under paragraph
(1) shall be made separately by each partner with respect to
the
partner's allocable share of any qualified expenditure. A
similar rule shall apply in the case of an S corporation and
its
shareholders.
(5) Dispositions
(A) Application of section 1254
In the case of any disposition of property to which section
1254 applies (determined without regard to this section), any
deduction under paragraph (1) with respect to amounts which are
allocable to such property shall, for purposes of section 1254,
be treated as a deduction allowable under section 263(c),
616(a), or 617(a), whichever is appropriate.
(B) Application of section 617(d)
In the case of any disposition of mining property to which
section 617(d) applies (determined without regard to this
subsection), any deduction under paragraph (1) with respect to
amounts which are allocable to such property shall, for
purposes
of section 617(d), be treated as a deduction allowable under
section 617(a).
(6) Amounts to which election apply not treated as tax
preference
Any portion of any qualified expenditure to which an election
under paragraph (1) applies shall not be treated as an item of tax
preference under section 57(a) and section 56 shall not apply to
such expenditure.

[Bees Knees]

In general, you will note the Section refers to an optional 10 year write off period for certain tax preferences. The purpose of the election is to avoid AMT. If you elect to write off the expense over 10 years, rather than take the deduction as a current expense, then there is no AMT issue to have to deal with.

[Vgene]

Clarity between 263(c) & 59(e)

First - I did not look up 59(e) because it was referenced to as "59E" election and the obivious thing as being a code reference never hit me. Glad it was not a snake!

After 30+ years of doing taxes, this is my first client that has gotten into the oil & gas business. Some new and interesting things coming at me. I appreciate your insight.

OIL & GAS IN A NUT SHELL - AS I UNDERSTAND:

§469(c)(3) & (4) allows the qualified participant (direct working interest) to be exempt from the passive law rules. Making the losses deductible.

§263(c) allows for the intangible drilling and development costs to either be capitalized or expensed.

Reg §§1.612-4 explains that the election to capitalize or to expense, under §263(c), is done simply by doing one way or the other in the first year.

§57(a)(2) lists the portion of intangible drilling costs which is treated as a tax preference item and thus subject to alternative minimum tax. (In spite of being excluded from the passive loss rules and allowed to expense under §263(c), it can still be subject to AMT!)

§59(e) allows the taxpayer to elect to amortize the §263(c) costs over 10 years or over 60 months versus taking the expense deduction in the year incurred.

§59(e)(6) exempts any 59(e) election amount to not be treated as a tax preference item.

Clarity needed:
(1) Do I have that right that the 59(e) election can be over 10 years or 60 months?
(2) Just curious - Before section 59(e) or if a 59(e) election was not made, and yet a taxpayer elected to capitalize the costs under 263(c); would the cost be amortized over a set time period or does it have to be held until the project is completed or sold - or what?
(3) Any other thoughts? Thanks

[Harvey Lucas]

59E coincidence

I was just picking up a client file to prep a 2006 1040 that includes the 59E issue, when I read your post.

My client first invested in a "working interest" in a Texas oil and gas well in late 2005.

He has a 1/8 "working interest".

It was his first experience with oil and gas.....mine too...as such I called an "Oil and Gas Tax Guy" in Texas for help.

Also researched in PPC deskbooks and of course Tax Book, came up with the following.

Client put up a total of $140,000 (round numbers).

$40,000 of that was in late 2005.

Of the $40,000, $10,000 was considered his share of "Leasehold Expenses", and $30,000 was his share of Intangible Drilling Costs, IDC.

If I wanted, I could have made an election to deduct the entire 30,000 of IDC in 2005, however, if I did, his total tax bill was actually higher (because of AMT) than the 59E option.

I made the election under 59E to amortize the IDC over 60 months. We claimed that on Sch C.
I was not able to deduct any of the $10,000 "Leasehold Expense" in 2005 because no income was generated yet.

In 2006, he came up with another $100,000 to finish the well. 20,000 of that was considered equipment, and 80,000 was more IDC.

The well began producing in 2006 and his share of income on a 1099 was $1800.

On his 2006 1040, on Sch C, I claim the 2nd year of the 2005 IDC Amortization, also, I make another 59E election to claim a 60 month amortization on the 80,000 of 2006 IDC.

Also, I claimed 5 year SL depreciation on his 20,000 of 2006 equip. I used SL to avoid AMT issues.

Also, he borrowed the money to invest in the well and incurred $8000 of interest expense in 2006. I put that on Sch C also.

I can't do anything yet with the $10,000 of 2005 "Leasehold Expense" because he has no net income yet.

Texas Tax Guy said that I can claim "depletion", ie, 15% of the income, however I have to have net income to do it.

Also, assuming that I eventually do have some net income to deduct depletion against, I can claim 15% depletion forever (against income) however, once my total depletion deduction exceeds my $10,000 "Leasehold Expense", then the excess amount is considered a preference item for AMT.

Hope this helps, not sure if it is all completely right, but that is the way I did it.

Harvey Lucas

[Joe Btfsplk]

Oil and gas wells

Anyone not in the business usually loses money when they buy a Working Interest in an Oil and Gas well. I used to have access to Dwights Reports which show the results of wells in various Fields. Someone tried to sell me an investment in a well in a Field which had been drilling producing wells. I checked the Dwight reports and found that they actually produced, but SOON WENT DRY.

Unless you have the means to investigate the area and results of other wells, don't waste your money.