Marginal Well Credit Creates Major Opportunity to Reduce Taxes

The marginal well credit (MWC), generally unavailable since its enactment in the early 2000s due to price limitations, is now available for natural gas producers with operating interests in tax year 2016 and is projected to be available for tax year 2017. The MWC is a production based tax credit that provides a maximum credit of $0.50 (adjusted for inflation) per 1,000 cubic feet of qualified production of natural gas.

For purposes of the MWC, a marginal well is a domestic well that has marginal production under percentage depletion rules, which is 15 barrels of oil equivalent per day (i.e., 90 mcf or less per day).

The MWC is subject to certain limitations. First, taxpayers must have an operating interest in a marginal well. Second, the credit amount is determined based on the average wellhead price of domestic natural gas for the prior year, namely the reference price. Third, 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. Certain limitations exist for production in a short year.

For tax year 2016, the credit available for natural gas production after limitations are applied is $0.14 per mcf. Utilizing the same methodology used to calculate the 2016 credit that the IRS outlined in Notice 2017-51, it is anticipated that a credit for qualified natural gas wells will be available for 2017; however, the IRS will issue its final calculation in 2018.

It should be noted that crude oil production also qualifies for this credit and is subject to other limitations not described within this article; however, since oil prices have regularly exceeded the price limitation outlined in the Internal Revenue Code, this credit related to oil production often remains unavailable.

The MWC is part of the general business credit and cannot offset tax liabilities generated from the alternative minimum tax, and any unused credit can be carried back five years and carried forward 20 years.

If you think you could benefit from the credit or would like to discuss 2017 production and projections available for the credit, please contact a Schneider Downs tax advisor.