The return of enhanced oil recovery credits, marginal gas well credits, and other oil and gas tax considerations in today’s pricing environment

​The IRS announced the return of the full 15-percent Enhanced Oil Recovery Credit (“EOR”) credit for 2016 on July 18, 2016. The EOR credit is a tax credit for qualified EOR costs incurred by a taxpayer in a tax year. The credit is permanent but has been phased out and unavailable for the last 10 years due to commodity prices. Although the oil and gas industry had speculated about the potential availability of the EOR credit for 2016 earlier in the year based on calculations described here, official confirmation in Notice 2016-44 was welcome guidance for the industry.​

Today’s oil and gas pricing environment

​With the continued low commodity pricing environment, many oil and gas companies remain under increased pressure to cut costs and effectively manage cash flow. This often includes an enhanced focus on utilizing available tax-related incentives. The good news is that there are a number of renewed tax considerations to explore during this tumultuous period of low commodity prices, including the enhanced oil recovery (EOR) credit, the marginal well credit (MWC), marginal well benefits as defined by Texas statute, and specified liability losses (SLLs).

This article, originally published in TAXES – The Tax Magazine, examines oil and gas tax considerations in today’s pricing environment.​

Enhanced oil recovery projects

A qualified EOR project is generally a project that involves increasing the amount of recoverable domestic crude oil through the use of one or more tertiary recovery methods as defined in Code Sec. 193(b)(3). Qualified tertiary methods are provided in the related EOR credit Income Tax Regulations including:

  • Steam recovery methods ( e.g., steam drive injection, cyclic steam injection, and in situ combustion)
  • Gas flood recovery methods ( e.g., miscible fluid displacement, CO2 augmented waterflooding, immiscible CO2 displacement, and immiscible nonhydrocarbon gas displacement)
  • Chemical flood recovery methods ( e.g., microemulsion flooding and caustic flooding)
  • Mobility control recovery method (polymer augmented waterflooding).

Simply accelerating the recovery of minerals does not qualify as an EOR project. Rather, more than an insignificant increase in the amount of crude oil that will ultimately be recovered is required. A qualified EOR project must also meet other specified requirements provided by the statute and regulations including:

  • The project must be located within the United States
  • The initial implementation of one or more of the qualified tertiary methods must have commenced after December 31, 1990
  • The project must be certified through procedures described in Reg. §1.43-3.

oil and gas refinery

Marginal well tax credit

The marginal well tax credit is a production-based tax credit that provides a $3-perbarrel credit for the production of crude oil and a $0.50-per-1,000-cubic-feet (Mcf) credit for the production of qualified natural gas from a qualified marginal well.

Similar to the EOR credit, since its enactment in 2004, the MWC has been fully phased out for both marginal oil and natural gas wells due to the relevant commodity prices.

No taxpayer has ever claimed the Code Sec. 45I MWC since its enactment, and no IRS form exists to claim the credit since the IRS has never needed to develop one.

Based upon projections of the 2015 reference price for natural gas, it appears that the MWC for natural gas may be available in 2016 for the first time. However, it is clear that the MWC for oil is fully phased out for the 2016 tax year.

oil derrick
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