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of the oil production to be 1,100 barrels (10,000 barrels × 11% (0.11)). Depletable oil or natural gas quantity. Gen- erally, your depletable oil quantity is 1,000 bar- rels. Your depletable natural gas quantity is 6,000 cubic feet multiplied by the number of barrels of your depletable oil quantity that you choose to apply. If you claim depletion on both oil and natural gas, you must reduce your de- pletable oil quantity (1,000 barrels) by the num- ber of barrels you use to figure your depletable natural gas quantity. Example. You have both oil and natural gas production. To figure your depletable natu- ral gas quantity, you choose to apply 360 bar- rels of your 1,000-barrel depletable oil quantity. Your depletable natural gas quantity is 2.16 mil- lion cubic feet of gas (360 × 6,000). You must reduce your depletable oil quantity to 640 bar- rels (1,000 – 360). If you have production from marginal wells, see section 613A(c)(6) to figure your depletable oil or natural gas quantity. Also, see Notice 2012-50, available at IRS.gov/irb/ 2012-31_IRB#NOT-2012-50. Business entities and family members. You must allocate the depletable oil or gas quantity among the following related persons in proportion to each entity's or family member's production of domestic oil or gas for the year. • Corporations, trusts, and estates if 50% or more of the beneficial interest is owned by the same or related persons (considering only persons that own at least 5% of the beneficial interest). • You and your spouse and minor children. A related person is anyone mentioned in the re- lated persons discussion under Nondeductible loss in chapter 2 of Pub. 544, except that for purposes of this allocation, item (1) in that dis- cussion includes only an individual, his or her spouse, and minor children. Controlled group of corporations. Mem- bers of the same controlled group of corpora- tions are treated as one taxpayer when figuring the depletable oil or natural gas quantity. They share the depletable quantity. A controlled group of corporations is defined in section 1563(a), except that, for this purpose, the stock ownership requirement in that definition is “more than 50%” rather than “at least 80%.” Gross income from the property. For purpo- ses of percentage depletion, gross income from the property (in the case of oil and gas wells) is the amount you receive from the sale of the oil or gas in the immediate vicinity of the well. If you do not sell the oil or gas on the property but manufacture or convert it into a refined product before sale, or transport it before sale, the gross income from the property is the representative market or field price (RMFP) of the oil or gas before conversion or transportation. If you sold gas after you removed it from the premises for a price that is lower than the RMFP, determine gross income from the prop- erty for percentage depletion purposes without regard to the RMFP. Gross income from the property does not in- clude lease bonuses, advance royalties, or other amounts payable without regard to pro- duction from the property. Average daily production exceeds depleta- ble quantities. If your average daily produc- tion for the year is more than your depletable oil or natural gas quantity, figure your allowance for depletion for each domestic oil or natural gas property as follows. 1. Figure your average daily production of oil or natural gas for the year. 2. Figure your depletable oil or natural gas quantity for the year. 3. Figure depletion for all oil or natural gas produced from the property using a per- centage depletion rate of 15% (0.15). 4. Multiply the result figured in (3) by a frac- tion, the numerator of which is the result figured in (2) and the denominator of which is the result figured in (1). This is your depletion allowance for that property for the year. Taxable income limit. If you are an independ- ent producer or royalty owner of oil and gas, your deduction for percentage depletion is limi- ted to the smaller of the following. • 100% of your taxable income from the property figured without the deduction for depletion and the deduction for domestic production activities under section 199. For a definition of taxable income from the property, see Taxable income limit, earlier, under Mineral Property. • 65% of your taxable income from all sour- ces, figured without the depletion allow- ance, the deduction for domestic produc- tion activities, any NOL carryback, and any capital loss carryback. You can carry over to the following year any amount you cannot deduct because of the 65%-of-taxable-income limit. Add it to your de- pletion allowance (before applying any limits) for the following year. Partnerships and S Corporations Generally, each partner or S corporation share- holder, and not the partnership or S corpora- tion, figures the depletion allowance separately. Each partner or shareholder must decide whether to use cost or percentage depletion. If a partner or shareholder uses percentage de- pletion, he or she must apply the 65%-of-taxa- ble-income limit using his or her taxable income from all sources. Partner's or shareholder's adjusted basis. The partnership or S corporation must allocate to each partner or shareholder his or her share of the adjusted basis of each oil or gas property held by the partnership or S corporation. The partnership or S corporation makes the alloca- tion as of the date it acquires the oil or gas property. Each partner's share of the adjusted basis of the oil or gas property generally is figured ac- cording to that partner's interest in partnership capital. However, in some cases, it is figured according to the partner's interest in partnership income. The partnership or S corporation adjusts the partner's or shareholder's share of the adjusted basis of the oil and gas property for any capital expenditures made for the property and for any change in partnership or S corporation inter- ests. Recordkeeping. Each partner or shareholder must separately keep re- cords of his or her share of the adjus- ted basis in each oil and gas property of the partnership or S corporation. The partner or shareholder must reduce his or her adjusted basis by the depletion allowed or allowable on the property each year. The partner or share- holder must use that reduced adjusted basis to figure cost depletion or his or her gain or loss if the partnership or S corporation disposes of the property. Reporting the deduction. Information that you, as a partner or shareholder, use to figure your depletion deduction on oil and gas proper- ties is reported by the partnership or S corpora- tion on Schedule K-1 (Form 1065) or on Sched- ule K-1 (Form 1120S). Deduct oil and gas depletion for your partnership or S corporation interest on Schedule E (Form 1040). The deple- tion deducted on Schedule E is included in fig- uring income or loss from rental real estate or royalty properties. The Instructions for Sched- ule E (Form 1040) explain where to report this income or loss and whether you need to file ei- ther of the following forms. • Form 6198. • Form 8582. Natural Gas Wells You can use percentage depletion for a well that produces natural gas that is either: • Sold under a fixed contract, or • Produced from geopressured brine. Natural gas sold under a fixed contract. Natural gas sold under a fixed contract qualifies for a percentage depletion rate of 22%. This is domestic natural gas sold by the producer un- der a contract that does not provide for a price increase to reflect any increase in the seller's tax liability because of the repeal of percentage depletion for gas. The contract must have been in effect from February 1, 1975, until the date of sale of the gas. Price increases after February 1, 1975, are presumed to take the increase in tax liability into account unless demonstrated otherwise by clear and convincing evidence. Natural gas from geopressured brine. Qualified natural gas from geopressured brine is eligible for a percentage depletion rate of 10%. This is natural gas that is both the follow- ing. • Produced from a well you began to drill af- ter September 1978 and before 1984. • Determined in accordance with section 503 of the Natural Gas Policy Act of 1978 to be produced from geopressured brine. RECORDS Page 38 Chapter 9 Depletion