03 · Tax advantages
If taxable income is $800,000 and a $200,000 deduction is allowable, tax is computed on $600,000. The deduction is the well cost already incurred — not a cash grant.
Intangible drilling costs
Intangible drilling costs are the labor, fuel, site preparation, and contractor charges that go into making a well — costs that generally have no salvage value once spent. Beginning in 1916, Treasury permitted those costs to be deducted in the year incurred rather than capitalized. The election is now in IRC §263(c) and Treas. Reg. §1.612-4.
A dry hole remains possible. EIA’s historical well-completion series (1949–2010) recorded oil, gas, and dry outcomes and separated exploratory wells from development wells. Exploratory drilling carried the higher dry-hole rate. That record is context for why the statute exists. It is not a forecast for any current well.
Horizontal drilling and multi-stage fracturing have changed how most U.S. tight-oil wells are drilled. Industry-wide dry-hole risk is not zero. Across more than 160 wells partnered by Everest Energy Resources and Empire Energy Capital with stated operators, none has resulted in a dry tap to date.
Statutory basis
1916 IDC · 1926 depletion · 1954 §263(c) · 1986 §469(c)(3) · 2025 Pub. L. 119-21 restores 100% bonus depreciation under §168(k).
Ordinary income
Material participation is commonly discussed as 100 hours and more than any other person. Cost segregation typically isolates a fraction of the building — often 20–40%. Leverage is what can make the first-year deduction approximate cash invested.
IRC §469(c)(3) when the interest is held in the required form. IDC together with 100% bonus depreciation on qualifying equipment can apply to substantially all of the capital deployed in that well.
Limitations
Alternative minimum tax. Excess IDC may be a preference item. Regular-tax results are not always the final federal result.
Excess business loss, IRC §461(l). For 2026 the inflation-adjusted threshold is $256,000 (single) / $512,000 (joint). Amounts above the threshold carry forward as a net operating loss. Public Law 119-21 made the limitation permanent.
At-risk and basis. Deductions generally cannot exceed amounts at risk under §465 or partnership basis under §704(d). State law may not follow the federal treatment.
Educational material only. Not an offer to sell a security. Not tax, legal, or investment advice.
