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Working interest vs. mineral ownership
We will compare oil and gas working interest and mineral interest side-by-side. Aside from the benefits of owning alternative investments, it is good to understand the value of both oil and gas working interest and mineral ownership.
First, let’s briefly look at the three types of direct ownership in oil and gas.
Three Types of Oil and Gas Ownership
There are three types of ownership in oil and gas exploration and production. An investor can choose when investing in the oil and gas industry to participate as a working interest, or mineral interest owner. Working interest owners have a lease agreement with the mineral owner that grants rights to explore, drill and produce oil and gas from the specified property.
A mineral ownership is recorded and deeded as real property, outlining ownership of all minerals, like oil and gas, below surface. A mineral owner leases the mineral rights to an exploration and production company that is seeking to exploit and produce those minerals such as oil and gas. In exchange the mineral owner receive an up-front payment (lease payment) as well as retains a royalty interest of all future revenue.
The third ownership is overriding royalty interest, which has much of the same benefits as the mineral owner. Nevertheless, an overriding royalty interest owner does not own the mineral rights. Matter fact, an override can only claim the rights to a set ownership interest, agreed to in a lease agreement. Should the agreement expire, so will the ownership of the overriding royalty.
Duration of Interest
Working Interest
Limited to terms set forth in the lease agreement between mineral owner and working interest owner. Typically terminates due to inactivity before lease term expiration, or after a well is no longer economically producing.
Mineral Ownership
Minerals can be owned in perpetuity, like any form of real estate. Nevertheless, States such as Louisiana use the Napoleonic Law System that enforce the mineral rights to revert back to the original land owner.
EXPLORATION AND PRODUCTION COST
Working Interest
Working interest owners are responsible for all exploration costs such as labor, engineering, overhead, rig costs, transportation, casing, and other tangibles, as well as plugging and abandonment.
Mineral Ownership
Minerals can be owned in perpetuity, like any form of real estate. Nevertheless, States such as Louisiana use the Napoleonic Law System that enforce the mineral rights to revert back to the original owner.
TAX BENEFITS
Working Interest
With the U.S. government backing domestic energy production there are significant advantages to oil investments. Intangible drilling costs, which generally constitute 65%-80% of the total drilling cost, is 100% deductible in the year incurred. Tangible drilling costs are also 100% deductible, but must be depreciated of seven (7) years. Also, any income generated through working interest is considered active income and can be offset against other forms of income (wages, interest, and capital gains).
Mineral Ownership
Mineral owners receive royalties from producing oil and gas wells. They do not share any exploration or production liabilities, but also are not eligible to any tax benefits taken by working interest owners. All income is treated as ordinary income, and is taxed at the individuals tax rate.
ASSIGNABLE INTEREST
Working Interest
With the U.S. government backing domestic energy production there are significant advantages to oil investments. Intangible drilling costs, which generally constitute 65%-80% of the total drilling cost, is 100% deductible in the year incurred. Tangible drilling costs are also 100% deductible, but must be depreciated of seven (7) years. Also, any income generated through working interest is considered active income and can be offset against other forms of income (wages, interest, and capital gains).
Mineral Ownership
Mineral rights are real property and freely assignable or divisible. This means oil and gas mineral ownership is transferable, in whole or in part by the mineral owner. Minerals, like real estate, can also be owned in a Self-Directed IRA, or be part of a 1031 Exchange.
IN CONCLUSION
Contributor: Troy W. Eckard
Troy W. Eckard has over three decades of energy expertise. Troy has been investing in tangible asset since 1985, and built multiple companies focused on aggregating, maturating, and liquidating investment opportunities. He's the longest World MoneyShow attendee, and is striving to continue his presence to inform and educate investors on tangible assets.
