What is Cost depletion?
Cost depletion is a tax deduction method that allows oil and gas investors to recover their capital investment in proportion to the mineral reserves extracted and sold each year. The deduction equals the investor's adjusted basis in the property multiplied by the ratio of units sold during the year to total recoverable units remaining at year-end. Unlike percentage depletion, which can exceed original investment cost, cost depletion terminates when the investor's basis reaches zero. Investors must calculate both cost depletion and percentage depletion annually and claim the greater of the two. Percentage depletion typically provides greater long-term benefits through the Oil and gas deduction strategy, which helps passive investors offset income while participating in domestic energy production.
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