Since tax year 2016, the marginal well credit (MWC) has created opportunities to reduce taxes for natural gas producers holding an operating interest in qualified wells.
A marginal well is defined as a domestic well that has marginal production of crude oil or natural gas under percentage depletion rules, which is 15 barrels of oil equivalent per day or 90 mcf or less per day.
While the MWC does not limit the number of qualified wells to be utilized to determine the credit, it is subject to the following limitations:
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Taxpayers must have an operating interest in a marginal well.
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The credit amount is determined based on the average wellhead price of domestic natural gas for the prior year, namely the reference price.
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The credit can only be claimed for qualified production on the first 1,095 barrels of oil equivalents (6,570 mcf) for the tax year.
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Limitations exist for production in a short year.
The MWC is part of the general business credit and cannot offset tax liabilities generated by the alternative minimum tax. Any unused credit can be carried back five years and carried forward 20 years.
The IRS states in Notice 2020-34 dated May 18, 2020 (Internal Revenue Bulletin 2020-21), the same methodology will continue to be utilized to calculate the credit for the tax years after 2018. The IRS typically will release and finalize the reference price and its calculation of the credit months after the end of the applicable tax year (usually after 3/15 and 4/15 filing deadlines).
For natural gas producers, based on the methodology outlined by the IRS, the credit could potentially exceed 60 cents for tax year 2020 and could provide a significant tax savings to qualified taxpayers compared to the prior tax years, as outlined below.
| Tax Year | Credit Allowed |
|---|---|
| 2016 | 0.14 |
| 2017 | 0.51 |
| 2018 | 0.00 |
| 2019 | 0.08 |
| 2020 | >.60 Projected |
As expected, the IRS will not release the MWC until after 4/15, so it may benefit taxpayers to extend their returns to claim it on a timely filed return that doesn’t require amending.
It also should be noted the MWC includes oil production under the definition of qualified marginal wells; however, it is subject to a separate limitation (not described within this article). The credit related to oil has been phased out for all tax years the credit has been in existence due to high oil prices (relative to the requirements for the credit).
If you think you could benefit from the credit or would like to discuss production and projections available for the credit, please contact a Schneider Downs tax advisor.
Source: http://www.irs.gov/forms-pubs/updates-for-form-8904-rev-december-2018-per-notice-2019-37-and-notice-2020-34
