Page 96 - Small Business Taxes

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8582 8582 Passive Activity Loss Limitations • The number of units of mineral sold during can figure your cost depletion deduction by tak-
T (Timber) T (Timber) Forest Activities Schedule the tax year. ing the following steps.
See chapter 12 for information about getting Basis for depletion. To figure the property's
publications and forms. basis for depletion, subtract all the following Step Action Result
from the property's adjusted basis. 1 Divide your property's Depletion unit.
Who Can Claim 1. Amounts recoverable through: basis for depletion by
total recoverable units.
Depletion? a. Depreciation deductions, 2 Multiply the depletion Cost depletion
unit by units sold
deduction.
b. Deferred expenses (including defer- during the tax year.
If you have an economic interest in mineral red exploration and development
property or standing timber, you can take a de- costs), and You must keep accounts for the depletion of
duction for depletion. More than one person c. Deductions other than depletion. each property and adjust these accounts each
can have an economic interest in the same min- year for units sold and depletion claimed.
eral deposit or timber. In the case of leased 2. The residual value of land and improve- Elective safe harbor for owners of oil and
property, the depletion deduction is divided be- ments at the end of operations.
tween the lessor and the lessee. 3. The cost or value of land acquired for pur- gas property. Instead of using the method de-
scribed earlier to determine the total recovera-
You have an economic interest if both the poses other than mineral production. ble units, you can use an elective safe harbor to
following apply. Adjusted basis. The adjusted basis of determine the property’s recoverable reserves
• You have acquired by investment any in- your property is your original cost or other ba- for purposes of figuring cost depletion. If you
terest in mineral deposits or standing tim- sis, plus certain additions and improvements, choose the elective safe harbor, the total recov-
ber. and minus certain deductions such as depletion erable units equal 105% of a property's proved
• You have a legal right to income from the allowed or allowable and casualty losses. Your reserves (both developed and undeveloped).
extraction of the mineral or cutting of the adjusted basis can never be less than zero. See For details, see Revenue Procedure 2004-19
timber to which you must look for a return Pub. 551 for more information on adjusted ba- on page 563 of I.R.B. 2004-10, available at
of your capital investment. sis. IRS.gov/irb/2004-10_IRB#RP-2004-19.
A contractual relationship that allows you an To make the election, attach a statement to
economic or monetary advantage from prod- Total recoverable units. The total recovera- your timely filed (including extensions) original
ucts of the mineral deposit or standing timber is ble units is the sum of the following. return for the first tax year for which the safe
not, in itself, an economic interest. • The number of units of mineral remaining harbor is elected. The statement must indicate
that you are electing the safe harbor provided
at the end of the year (including units re-
Depletion is an item of tax preference covered but not sold). by Revenue Procedure 2004-19. The election, if
! under the Alternative Minimum Tax • The number of units of mineral sold during made, is effective for the tax year in which it is
CAUTION (AMT). See section 57. the tax year (determined under your made and all later years. It cannot be revoked
method of accounting, as explained next). for the tax year in which it is elected, but it may
Basis adjustment for depletion. You must You must estimate or determine recoverable be revoked in a later year. Once revoked, it
reduce the basis of your property by the deple- units (tons, pounds, ounces, barrels, thousands cannot be re-elected for the next 5 years.
tion allowed or allowable, whichever is greater, of cubic feet, or other measure) of mineral prod-
but not below zero. ucts using the current industry method and the Percentage Depletion
most accurate and reliable information you can
Mineral Property obtain. You must include ores and minerals that To figure percentage depletion, you multiply a
are developed, in sight, blocked out, or as-
certain percentage, specified for each mineral,
sured. You must also include probable or pro- by your gross income from the property during
Mineral property includes oil and gas wells, spective ores or minerals that are believed to the tax year.
mines, and other natural deposits (including ge- exist based on good evidence. But see Elective The rates to be used and other rules for oil
othermal deposits). For this purpose, the term safe harbor for owners of oil and gas property, and gas wells are discussed later under Inde-
“property” means each separate interest you later. pendent Producers and Royalty Owners and
own in each mineral deposit in each separate under Natural Gas Wells. Rates and other rules
tract or parcel of land. You can treat two or Number of units sold during the tax year. for percentage depletion of other specific miner-
more separate interests as one property or as You determine the number of units sold during als are found later under Mines and Geothermal
separate properties. See section 614 and the the tax year based on your method of account- Deposits.
related regulations for rules on how to treat sep- ing. Use the following table to make this deter-
arate mineral interests. mination. Gross income. When figuring percentage de-
There are two ways of figuring depletion on pletion, subtract from your gross income from
mineral property. IF you THEN the units sold during the property the following amounts.
• Cost depletion. use ... the tax year are ... • Any rents or royalties you paid or incurred
• Percentage depletion. the cash method the units sold for which you for the property.
Generally, you must use the method that gives of accounting receive payment during the tax • The part of any bonus you paid for a lease
on the property allocable to the product
you the larger deduction. However, unless you year (regardless of the year of sold (or that otherwise gives rise to gross
sale).
are an independent producer or royalty owner, income) for the tax year.
you generally cannot use percentage depletion an accrual the units sold based on your
for oil and gas wells. See Oil and Gas Wells, method of inventories and method of A bonus payment includes amounts you paid as
accounting for inventory.
accounting
later. a lessee to satisfy a production payment re-
The number of units sold during the tax year tained by the lessor.
Cost Depletion does not include any for which depletion deduc- Use the following fraction to figure the part
tions were allowed or allowable in earlier years. of the bonus you must subtract.
To figure cost depletion, you must first deter-
mine the following. Figuring the cost depletion deduction. No. of units sold in the tax year × Bonus
• The property's basis for depletion. Once you have figured your property's basis for Recoverable units from the property Payments
• The total recoverable units of mineral in the depletion, the total recoverable units, and the For oil and gas wells and geothermal depos-
property's natural deposit. number of units sold during the tax year, you its, more information about the definition of
Chapter 9 Depletion Page 37