it's a little more complicated.
working interest and royalty interest owners can claim the greater of cost depletion (IRC SEC 612) or percentage depletion (IRC SEC 613A)
cost depletion = unrecovered depletable costs divided by estimated recoverable reserves in units at the beginning of the year or acquistion (usually from and engineering report) times units sold (for cash basis taxpayer - amount received during year)
percentage depletion rules
1) a % of gross receipts that does not includebonuses, advance royalties or other amounts received without regard to actual production
2) rate is generally 15%
3) who qualifies - independent producers (generally working interest owners who are not retailers or refiners) with <1,000barrels of daily production. Royalty owners are also eligible
4) % depletion is limited to net income from each property before depletion
5) a taxpayer's total % depletion deduction from oil and gas properties cannot exceed 65% of taxable income computed before % depletion, any NOL or capital loss carrybacks and the 199A deduction
also see iRS PUB 5652
