The WealthAbility Show #146: Love it or hate it, our government continues to encourage oil and gas investments. Have you wondered what types of benefits are available for these investments? Why does our government continue to incentivize this sector? In this episode, Mike Mauceli joins Tom to discuss how the government navigates oil and gas investments, and how they can be part of a successful retirement strategy.
Order Tom’s new book, “The Win-Win Wealth Strategy: 7 Investments the Government Will Pay You to Make” at: https://winwinwealthstrategy.com/
Looking for more on Mike Mauceli?
00:00 – Intro
02:15 – When and why did the government decide to incentivize oil and gas?
08:45 – What’s the difference between exploration and development?
11:08 – What is fracking?
13:45 – Should we be concerned with the environmental impact of oil and gas?
17:37 – What type of incentives continue to boost oil and gas investments?
24:30 – What is a depletion deduction?
This is The WealthAbility® Show with Tom Wheelwright. Way more money, way less taxes.
Welcome to The WealthAbility Show, where we're always discovering how to make way more money and pay way less taxes. Hi, this is Tom Wheelwright, your host, CEO, and founder of WealthAbility. So in my new book, The Win-Win Wealth Strategy, we talk about energy and how important energy is to the world. We've talked about renewable energy. Now, let's talk about what we're going to discover today, is all of the tax incentives, the policy behind incentivizing fossil fuels. You may not like fossil fuels, but the reality is, they are still highly incentivized from a tax perspective and from a policy perspective. And with me today, I have my good friend, old friend, Mike Mauceli, a true Texas oil and gas, Texas oil guy. And Mike, it's great having you with us.
Well, thank you, Tom, for having me on your show.
So if you would, just give us a little of your background, and really why oil and gas is so important in your world.
Well, my name is Michael Mauceli and I'm the CEO of REI Energy. I've been in the oil and gas industry since 1979. Started my career with Tennessee Oil and Gas, which was basically a midstream company. They obviously managed pipelines that ran from South Louisiana all the way up to Chicago.
And then I got into the exploration and development side of the business in the early 1980s when oil prices were about $47 a barrel. And I started my company in 1987 when oil prices were about $9 a barrel. So I've seen both the upsides and the downsides. We've drilled both domestically and internationally and onshore and offshore. So we've done just about all of it in the industry.
Awesome. So thank you. So let's go back to, do you remember, when did the US government first start incentivizing drilling oil wells? And why did they make that change to the law? Why incentivize it?
Well, I think like most governments, oil and gas or fossil fuels is the lifeblood of really any economy. Everybody wants cheap fuel. Right? And in order for a developing nation or the industrialized age after the war, there was a big push. Because at that time, the US was still entered the number one oil and gas producer in the world. And of course, that's what helped us win World War II, was because we did control the oil and gas.
So the government has always been behind incentivizing cheap fuel, and so that's why they came up with the taxes. I believe, and you probably know more better than I do, but I believe that originally, they not only incentivized the oil and gas for small independence, but also the majors at that time. Is that-
Yeah, that's true. That's true. It's been the last 20 years or so that they've reduced that to just the in independence. So if you would, I know I'm the tax guy, but you deal with this on a daily basis. Can you just kind of walk us through… Because we're not talking about incentives for investing in Exxon or mobile or some oil stocks, we're talking about investing in the actual wells. Would you walk us through basically oil drilling in the first place, just kind of the different types of investments in oil and gas that are available?
Well, there are obviously a number of type of investments, and one, you can either invest through the stock market and invest with public oil and gas companies, or two, you can basically invest in minerals, which that's actually where land people or companies go out and they take leases from landowners, and then of course, they carve off a position for themselves and then they re-market that to individuals or corporations or mutual funds and stuff.
Or you can do what we do, which is actually participate in oil and gas and actually drill the wells, operate the wells. And then of course, we usually throw off monthly cash flow once a well becomes… And a lot of these plays, for example, these horizontal plays, they all start out kind of like a goal rush. When a play first takes off, for example, the Bakken up in North Dakota, which we've been involved in the Bakken since 1911.
So when that prospect or play originally took off, I mean everyone ran out and automatically leased land from their brothers, their sisters, their neighbors. And of course, as I say, most of these plays, once you make a discovery, starts off like a goal rush. Now, in the Bakken, for example, it's one of the largest plays. In fact, it may be the largest oil and gas play in the United States. It runs about 250 miles east-west and about 150 miles north-south. I think that's about two to 300 square miles, as far as that, that the play actually covers.
So a lot of these prospects, when they start out, the first thing companies do is, like I said, run out and lease land. And then once they have their acreage positions, now, on a oil and gas lease, when I go out and I take a lease from a landowner, for example, usually in that lease I have about three years to drill a well on it. And the lease may be good for 10 years, but you have a drilling commitment. Now, once I drill the first well, then the company will hold that land until the well depletes. Most of these wells last 15 to 25 years one you drill a well on them. So the first thing companies do in these big plays, is they go out and they immediately start drilling their acreage positions, and that way they get all of their land held and a drilling unit-
So just so I can clarify. So once you drill one well, that timeline is off because you have drilled, you can wait to drill the other wells?
So the first thing you want to do as a company when you're in the exploration phase is to type all of your land by drilling a well on it. Now, once I have my land tied up and my position tied up, then you come back and you start infill drilling, or drilling your development wells. So as I said, now, if you just imagine one of these plays is kind of like a large bullseye. So a bullseye, the center of it, it's where your best production is. And then of course, as you get out on the edges, the wells make less production. So these types of plays are not all equal. Different companies have better acreage positions. Same thing if it's in West Texas or in the Bakken or the Eagle Ford or any of these plays, you're going to have the sweet spots that you drill in. So once you get all of the wells drilled, then companies can determine where the best drilling areas are.
Now, a drilling unit, and I don't want to get too technical, but a drilling unit is they lay down two 640 acre tracks north-south, and in most of the plays, you're drilling a 10,000-foot vertical well, and then a 10,000-foot horizontal well. So in essence, your well is about 20,000 feet, right at about four miles is what you're drilling each one of these wells. But by drilling horizontal well in these organic rich rocks, you're able to drain that area around the well board. And in most cases, it'll take probably four wells to drain in that one drilling unit.
Got it. Okay. All right. So you talked about exploration versus development. So exploration, you think there's oil there, you're not positive. Development, you're pretty positive it's there, you're just pulling more of the oil out. Is that fair?
Yeah. And what I call exploration phase, and now when we talk about exploration, it's different than you're going out drilling a one well project in a conventional sense, as versus drilling a horizontal well. These horizontal plays, if you imagine a large sponge that's full of oil and gas, you take a sponge and put it under water, under a faucet, turn it on, and of course water will absorb in a sponge, but it's very difficult to run through it. And the reason why that is, it's because these plays have good porosity, but they don't have permeability. And if you can imagine a jar of marbles, you take a jar of marbles and the space in between the marbles is the porosity. And then as though you pour water in the top of the jar, it runs through the marbles all the way to the bottom. That's your permeability.
So these are very organic plays. So you already know the oil and gas is there. The question is, is to how to get it out of the ground. And that's where the hydraulic fracturing comes in, where you actually go in and you break the rock up and then you create the permeability and then that allows the oil to flow back. Now, when we talk about exploration in these types of unconventional plays or the Bakken, for example, we're looking at the initial wells drilled as we spoke about, on the initial well to hold all the acreage.
So under the SEC rules, once you drill a horizontal well, you're drilling that 1,280 acres, the location to the north becomes approved location. The SEC gives you the location to the east and one to the west and one to the south. So when you drill a horizontal well in one of these drilling units, you immediately prove up four additional wells that fall into a proven category, which is your development wells. That make sense?
Got it. Got it, got it, got it. Okay. So you talked about the horizontal, which is commonly referred to as fracking. Right? And lot of environmentalists have been upset about the fracking. And can you talk about that just for a bit? Because that that's always in the news, that's always something that somebody is discussing.
Well, I think a lot of the environmentalists, they use fracking as this evil, because what happened was, back when you're in densely populated areas, like on the East coast where there's a large horizontal gas play there, when they went in and they fracked some of those wells, well, you got to realize that a lot of the wells, the earlier wells in that area, which I'm talking about the east coast now, a lot of those wells were drilled back in the '20s and the 1900s. So a lot of them had bad cement jobs, very, them may have not had any cement jobs. So they had a few wells then, when they first started that play, that when they fracked them, well, there was talk about, I don't know if it's ever been proven, but that people were seeing natural gas come through their faucets and stuff like that. It had gotten up into the water table. And basically, that's what the concern was originally.
Well, what people don't really realize, your fresh water zones only go down to about 2,400 feet. Okay? So we had talked a little bit earlier about drilling, for example, in the Bakken, the formation is at 10,000 feet. Well, the US oil and gas industry is the most heavily regulated industry in the United States, basically. So in order to cover those freshwater zones, of course you run cem pipe, you cement off the freshwater zone in your initial drilling of the well, and so you have a cement job there that all of that is protected and behind pipe. And then you drill your 10,000 foot well. So you go down to 10,000 foot where the zone of interest is in the Bakken, and then you drill your horizontal. So even though there's a lot of environmental push and oil and gas is bad and stuff like that, there's very little seepage that gets up into the higher zone or water table.
Got it. So let's keep going on the environmental just for a second, because there are people who are concerned, of course, of emissions and so forth. Can you talk about, not talking about automobiles, et cetera, we know about those, but when you're talking about natural gas and use in, we have this issue. Some states are regulating gas stoves now. We have concerns about gas-fired power plants for electricity.
So can you talk about natural gas? Because we have an abundance of natural gas in the US as I understand, we have for many, many decades supply of natural gas in the United States, and which is what Russia is cutting off from Europe is natural gas. So we have all this natural gas. And what do you see as the environmental concerns when it comes to natural gas?
Well, obviously they're pushing green energy, the use of solar and the use of wind power. And I believe in all of that. As a company that deals in energy, I think we need all forms of energy. We need wind, we need solar, we need nuclear, we need hydropower, and we need hydro oil and gas. And natural gas is probably one of the cleanest fuels.
I think one of the reasons why you're seeing this push towards, especially in the state of New York where they've recently tried to ban natural gas, I think they just try to, between California and New York, one tries to outdo the other as far as this green energy push to be the number one green energy. But I don't think there's any information out there that says natural gas is environmentally sensitive. It is one of the cleanest fuels.
Now, you do have carbon capture and some of the other issues that come off of oil that companies are obviously implementing. So there is a push to reduce emissions, but the United States has the lowest emissions in the world as far as… If you really wanted to try to reduce emissions, you'd need to look towards China and to India.
In fact, I was watching the Congressional Energy Committee a couple of weeks ago and they had the energy secretary on, and one of the senators was asking that they wanted to basically spend all this money to reduce world temperatures. And I think when he asked the question, the guy was hesitant to give him an answer, but in the end he said, “That you'd have to spend $57 trillion,” but yet he couldn't tell you how many degrees that it would reduce the climate by.
And that's just the United States. If you really try to reduce the temperature and you're talking about one or two degrees over a 50-year period, you're going to have to have… China and Russia, of course, China, Russia, India, they're the largest polluters in the world. As I said, the US oil and gas industry is the most heavily regulated industry in the country.
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Okay. So I guess one of the issues is methane. Right? My understanding though, is that methane typically gets burned off, rather than going out into the environment. Okay. So let's kind of shift gears because we're talking about incentives here, as to what kind of incentives there are. And these incentives, of course, have been under attack in recent years. In the Obama administration, every single budget attack these incentives, same with the Biden administration, and yet they persist. So can you just walk us through, and I know I'm the tax guy, but I'm going to have you walk us through it as an oil guy. Walk us through the tax incentives for fossil fuels.
Okay. So if an investor comes in and wants to invest in oil and gas, the federal government allows you to write off what they call the Intangible Drilling Cost Deductions, or IDCs. That's the largest tax deduction that you can get. And as you said earlier, it was an incentive originally done for the majors, and it's been reduced now for just the small independents.
And so a take a well, for example, every item that you use to drill well with, the cost to drill the hole, the hole itself, I would say probably 80% of the initial investment are intangibles. So the federal government allows you to write that off against your active income. And so an for example, if you're an investor and you're in a high tax bracket, say a 39% tax bracket, you're able to write off 80% of it. So the savings would translate to you of about $27,000, meaning the federal government would be basically coming in and incentivizing you to invest in oil and gas by giving you this tax deduction.
And as I was saying, 80% of the well, now even in the horizontal wells, you have the fracking now, which is just about as expensive as the drilling. In the past, it used to be the drilling was the most expensive part of a well, but the high hydraulic fracturing is just as expensive. In some cases, more expensive now because they're using these huger fracks, so you're able to write that off as well.
In the early days, you could write off a large amount of the drilling portion of the well and a very small amount of the completion, but now, you're able to take that deduction pretty much on both sides. So what that means is, is that an investor that's coming in that looking to take a risk, drill a well, and you're going to get incentivized by the government and the government's going to step in and pay for part of that.
Right. They're basically partnering with you and they're going to contribute part of that. And of course, the other 20% pretty much is equipment. Right? So that would get your normal depreciation deductions and including bonus depreciation. Okay. So that's the big incentive going in. And you mentioned that that can offset active income. This is the one place, which I think it would be the easiest one for them to change. And that is, that it doesn't matter if you are a passive investor or not, you still get the entire write off. Of course, up to that excess business loss limit of $550,000, but you still get that total write off.
So why do you think that is? I know it was actually your Texas senator that actually got that into that bill, that was in the 1986 act with the passive losses that said, “No, this is not going to be passive. You can offset even wages with it.” Why is that? That's a bigger incentive, actually, than if you get a solar deduction. Because a solar deduction, if you were investing in a solar farm, you would get the credit, but the deduction would be passive. So why the extra incentive for fossil fuels?
Well, I'll go back to what I said earlier, is that the government needs energy, it needs oil. Even though you have an administration now that is wanting to do away with fossil fuels, I think if you look at the most recent energy information report from the EIA, they still predict that oil and gas is going to be the number one fuel of choice in 2050. So, while electric vehicles and solar will be a portion of it, so we still need oil and gas.
And I go back to the fact that still that oil and gas is needed for reliable energy, where at this point in time, solar and wind is still unreliable. It may be used, and it is used. We use a lot of it here in Texas. Texas I think is the number one energy of wind power in the United States, but it is still unreliable, and you need cheap hydrocarbons to be able to run the economy. And I think that's why they continue to incentivize it.
Now, some point down the road, if new technology comes about, then maybe at some point they'll do away with that tax deduction. But it is my belief, that while there's all kind of political talk, I think behind the scenes people really understand that we still need fossil fuels and we still need to encourage fossil fuels being drilled.
Yeah, I can't help but notice that even when the Democrats, who would be the ones who seem to want to eliminate this, even when they have controllable houses, they don't eliminate this incentive. I find that to be very instructional, frankly, as to how important it is, regardless of what we talk about otherwise. And I'm like you, I am a big fan of renewables, but we have to recognize, I think the reality that oil and gas is going to be here to stay. And of course, what's going on right now is pushing up the price of oil and gas. As they restrict the leases, they restrict the drilling, as they say that they don't like fossil fuels, what that does is push up the price of fossil fuels, which actually makes it more beneficial to go in and drill. So it's a really interesting conundrum that's going on right now.
But there's one other tax incentive I want to cover before we wrap up here, and that's the depletion deduction. Can you explain that? Because all these other tax benefits we talk about in The Win-Win Wealth Strategy are really front end tax benefits, they're when you put the money in. Oil and gas is the only one where you actually have a tax benefit for the money coming out. Can you kind of walk us through that real quick?
Yeah. So the federal government gives you what's called a depletion allowance, which allows you to write off 15% of every dollar that you make on top of it. So you're able to take that as a deduction, and actually, it's 15% tax-free.
Yeah. So essentially, you're only getting taxed on 85% of your income?
And there's no limit on that. So it's not based on how much money you put in or anything like that. It's simply a 15% haircut on the taxability?
[inaudible 00:26:15] very good.
Got it. Okay. So how long do you see the price of oil staying up? Do you think this is a long-term phenomenon now, now that we have this push towards clean energy?
Well, I think you have to look at internationally and you look at Saudi Arabia, the OPEC plus countries. From the beginning, back in 2015, well, when all of the horizontal drilling was at its height, the Saudis stepped in, and of course they tried to flood the market and caused the price to collapse at that point. But if you look at a lot of these economies around the world, the Saudis, they need high prices, obviously all of these countries in order to run their government. So that's why you saw recently where the Saudi stepped in and cut a million and a half barrels of oil a day because they want to see rent crude trade for close to about $90 a barrel. And I think you'll find that they will continue to reduce the amount of oil they're producing in order to keep those prices high.
So I see, back during COVID, obviously we saw a collapse in oil prices, but oil was already at pre-COVID, we were trading at about $62, $63 a barrel. Then when COVID hit and the economy shut down, then of course the price collapsed into the 20s. And then of course, when Biden, his first day in office, decided to kill the Keystone Pipeline, then all of a sudden you had the war in Ukraine, we saw oil and gas prices spike up to a $100 a barrel.
Realistically, I think everyone can make good money between $70 and $85 $90 a barrel. I think that's what the industry would rather see, is more of a stabilized price than all of these fluctuations. Because people can obviously manage their budgets, they can forecast when you have stabilized prices. And I think that's one of the things that you've seen from OPEC+, is that they're trying to step in and to manage that price of oil and gas to keep it stable.
So I see prices staying about where they are. There'll be fluctuations from time to time. The summer months, obviously, during the driving season, oil prices go up. Natural gas prices usually come down in the spring and the fall. And then of course, in the winter we use more natural gas for heating and stuff like that, or fuel oil up in the northeast for heating. So you see that seasonal fluctuation in prices, but I think the OPEC countries are trying to manage that and keep it stable at this price.
Got it. Thank you. Any final recommendations for somebody who's looking at oil and gas? For example, to me, the most important thing is who you're investing with. Because there are a lot of charlatans in your industry. There really are. And they will sell something saying, “Well, you get a tax deduction,” you may never see them again, but at least the government's paying 30% of it, but you're still losing 70%. So any final words of advice to investors?
Well, I think you have to look at an approach, when you're talking to somebody about making an investment in oil and gas, you need to understand do they have a good team behind them? It's just like a lot of times, you talk about a team, like Robert when he talks about having his accountants and all of his team, same thing you need in any business, you need to have people that understand the business. You need to be able to do the research to determine these unconventional plays. You're not going to drill a dry hole in that play. Now, the question is, are you going to make money or not? Are you going to be on the outside of the bullseye where the land is cheap out there? And of course, you can take leases cheaply, but realistically, you got to have $120 a barrel of oil to make it work. A lot of these people, they come in and they take these types of opportunities.
Now, I always go back to the Bakken because we've been in it for the longest, but there's been 14,000 wells drilled in the Bakken now. And so it is a developmental play, a lot like West Texas and some of the other plays. But when you reduce it down, there's only two counties that are your top two producing counties.
And what I mean by that, is that wells that can generate cashflow and make a profit at $50 to $60 a barrel. So if someone's coming in and they're looking at, say, I want to make an investment in one of these plays, you really might need to try to ask the questions of, “What have the wells surrounding you produced?” Yeah, wells back in 2010 where they had old technology, now they're starting to step in and they've got newer technology, so the wells are going to produce more.
So I would say that you have to basically get with someone that's been in the business, that understands the play, that has a team of geologists who are they're engineers, they're land people, that really understand it, and it's going to put you in the right area. So those are the questions I would ask. And that's kind of what I would want to look at from a standpoint of investing in one of these plays.
Because like I said, you're going to make a, well every time you drill. The question is, “Am I going to make 100,000 barrels of oil or I'm going to make 600,000 barrels of oil?” But what an investor has to realize, that a cost of a well, one well in these plays is 10 to $13 million of well.
So they're not cheap. You're not going out and drilling a 4,000 foot well in West Texas. You're spending right at 10 to $14 million every time you drill a well. And in most cases, on these drilling units, you're going to have four wells. So you're making close to a 60 to $70 million investment if you owned 100% of it, but what the companies are making in these areas. And so you got to make sure that the wells are going to produce the right amount of oil and gas in order to make a profit cause they are expensive.
Awesome. Thank you. So Mike, where would we find more information about what you do and your company?
Well, you can always reach out at 1877-915-7333, is our phone number. Or you can reach out to www.reienergy.com, or you can send me an email at firstname.lastname@example.org.
Awesome. Thank you, Mike.
Thank you, Tom.
Well, I love that you're willing to share your personal email address. That's awesome. So thanks everybody for listening. Remember that the government's our partner and we have to decide how we're going to partner with them. Are we going to be a silent partner? Are we going to be an active partner?
Whether it's renewable energy as we talked about in a previous show, or whether it's fossil fuel energy, the government gives big incentives for increasing the energy production in the United States. And what happens with those incentives is you end up always making way more money. Or usually, with the right team, with the right team, you can end up with way more money and way less tax. Thanks, everyone.
You've been listening to the WealthAbility Show with Tom Wheelwright. Way more money. Way less taxes. To learn more, go to wealthability.com.