Learning How to Invest in Oil Wells: Your Complete Guide

Key takeaways:

  • Learning how to invest in oil wells comes with significant tax incentives that can put more money back in your pocket.
  • You can enjoy a steady stream of income as long as the well you’ve invested in or purchased continues to produce oil.
  • Money can be made from an oil well even if the price of oil is low.
Invest in oil wells
Learning how to invest in oil wells can help you generate more profits.

Oil is heavily relied upon in all corners of the world, and that probably won’t change very much  the future, despite the emergence of alternative renewable energy sources. The world’s population is growing, and with that comes a continued demand for oil and oil-based products. That’s why you need to learn how to invest in oil wells.

Crude oil prices have tanked since 2014 and have remained extremely low since then, creating a potential buying point should the demand for oil continue and the price of oil increase – which they will.

Investors seeking to invest in oil wells should take the time to do the necessary research before making a buy. It’s critical to determine why sellers are offering wells for sale to assess the risks associated with such a transaction. Done right, a soundly-executed oil well investment could prove to be very profitable.

How do I invest in oil wells?

Invest in oil wells

Oil investing comes with a lot of tax advantages.

There are several different ways to get involved in oil investing. When you’re first learning how to invest in oil wells, you’ll want to carefully consider market capitalization and other types of investment opportunities.

Large Cap Stocks 

This tactic can help you gain exposure to the oil market through publicly traded companies that engage in oil drilling and exploration. Simply buying shares of these companies through a brokerage can give you direct exposure to them.

Mutual Funds or ETFs

Rather than directly buying stocks from oil companies, you may consider purchasing shares in various oil-focused mutual funds or exchange-traded funds (ETFs). These can help you gain significant exposure to this commodity without assuming direct risk in commodity prices and without putting too much of your capital into one company.

Futures Contracts

You can buy derivatives, such as futures contracts, as an alternative to ETFs or stocks. However, these can be very risky, since futures contracts often expire without any worth. Additionally, you’re locked into a futures contract. Options trading is different because you have the option to execute the contract on or before the expiry date.

Small-Cap Stock and Limited Partnerships

You can assume a direct equity position in a smaller project or company by investing in a small- or micro-cap stock, or in a limited partnership that focuses on oil. This is a specialized type of investment avenue that can actually involve dealing directly with the company’s management for a private placement opportunity if the amount you have to invest is significant.

Should I Invest in Oil Wells?

While oil investing can be somewhat risky and may require a great deal of capital, there are plenty of reasons why you may want to consider learning how to invest in oil wells.

Higher efficiencies

The technology used to drill and extract oil has skyrocketed in the United States. Companies are now able to drill and do much more with less capital, which means more savings and, therefore, more value.

Tax incentives

The IRS allows for an “intangible drill costs deduction” that investors who know how to invest in oil wells can take advantage of. These deductions can include everything except the actual drilling equipment. That means labor, grease, chemicals, and other items needed to drill are considered intangible and typically account for as much as 80 percent of the entire cost of drilling an oil well.

Enjoy steady income

Learning how to invest in oil wells is not a simple process, and oil investing isn’t exactly cheap, but the big benefit to this approach is that you are actually purchasing the oil production equipment. As long as the well produces oil, you will enjoy a steady stream of income. When you know how to invest in oil wells, money can be made even if the price of oil goes down, as long as the price is high enough to offset operational expenses.

Is Learning How to Invest in Oil Wells a Good Idea?

When you know how to invest in oil wells, you’re taking part in what’s known as “direct participation.” Essentially, you’re investing directly into either one oil well or a group of wells. As such, your investment is much more focused on the actual production of oil rather than the operation of a big corporation.

You will have the opportunity to have your investment grow much bigger and faster when it’s focused rather than it being tossed into a large group.

The costs associated with maintaining and operating oil wells is rather modest, which means you won’t lose a large chunk of your profits in carrying costs. While the actual cost to prepare and drill an oil well is expensive, the cost to maintain it should be minimal if an oil well is completed properly.

The oil operator is your partner when you’re involved in direct participation oil investing, and your partner does not want the carrying costs to be high. Because of this, you can rest assured that they’ve accounted for the carrying costs because they, too, want the oil well to be a profitable investment.

How do I purchase shares of oil wells?

If you learn how to invest in oil wells, you’ll quickly discover that it’s not unlike buying a stock. You are only liable for your investment amount.

With the stock market, if the company you bought shares in goes bankrupt, you are not impacted by these concerns other than the fact that your investment may become worthless. The same goes for investing in an oil well, where you are bound by an operating agreement with the well operator that stipulates that you’re not held liable for the actions of the oil operator.

You can approach the industry as a commodity and achieve profits from fluctuations in the price of oil.

ETFs

There’s minimal risk associated with buying exchange-traded funds, unlike other means of oil investing. With this approach, you essentially own a basket of shares of various oil well operators rather than buying stock from one company.

Partnerships

Many forms of partnerships can be used for oil investing, with limited partnerships being the most common. These limit the liability of the producing project to the amount of your investment and are sold as securities. This is a great opportunity to get your feet wet when you’re learning how to invest in oil wells.

Royalties

This refers to the compensation received by those who own the land where the oil well is located. Landowners generally receive between 12 and 20 percent of the gross production and assume no liability relating to the wells.

How do I buy producing oil wells?

Buying a producing oil well is somewhat like buying land or property. Advertisements are placed by sellers, and purchases are generally made with a broker involved as the middleman.

If you’re unfamiliar with how to invest in oil wells, this might not be the best place to start. However, it can produce lucrative opportunities.

As a buyer, you will want to have as much information about the well as you can to make an informed purchasing decision. You will want to learn more about the following:

  • Production rates
  • Offset production analysis
  • Estimated ultimate recovery
  • Geological surveys
  • Verification of production
  • Track record of output

Your offer should be based on:

  • Royalty percentage on the lease
  • Term of the lease
  • Current operator
  • Proximity to existing pipelines

A Purchase and Sale Agreement contract will be filled out and submitted to the seller. At closing, the seller will sign an Oil & Gas Mineral Deed prior to receiving payment for the oil well. At that point, you will be the recipient of royalty checks on the oil production.

What is the oil well investment tax deduction?

When you invest money in a shared interest oil well, you can take advantage of what the IRS refers to as an oil well tax deduction. If you are either a producer or royalty owner of oil from an oil well, you can deduct the smaller of the following:

  • 100% of your taxable income from the property where the oil well is located, which is figured without the deduction for depletion.
  • 65% of your taxable income from all sources, determined without the depletion allowance, net operating loss carryback, deduction for domestic production practices, and capital loss carryback.

Any amount that you can’t deduct because of the taxable income limit can be carried over to the following year and added to your depletion allowance for that year.

What are the best oil and gas investment  opportunities?

The best way to identify a sound investment opportunity is to conduct thorough research. Learning how to invest in oil wells should involve considerable preparation.

Many investors purchase stocks and investments from a stock brokerage that they trust because conducting this research can be complex. Investment opportunities will be narrowed down to what your tolerance for risk is. However, there is minimal return this way.

When investing in an oil well, you may want to do your own research. Legitimate oil drilling and exploration companies and operators will let you visit the drilling site and disclose the associated risks. They’ll fill you in on the geologist’s analysis of the site and well.

Getting your hands on important pieces of information about the well – including production rates, estimated recovery, the track record of output, royalty percentage on the lease, and proximity to existing pipelines – will help you make an informed decision on whether a certain investment opportunity is a viable one.

How do I invest in oil with little money?

These days, oil investing can be done with limited funds considering how low the current price is today. Buying low is critical to maximizing profits, so now is as good a time to buy as ever. It’s only a matter of time before the price of oil starts to rise again, and it will, given the continued dependence on oil on a global scale and OPEC’s recent agreement to cut back on the production of oil to stabilize the market.

With little money, you can buy a diversified portfolio of many oil stocks and pay few expenses. Look for an online brokerage that offers:

  • No minimum balance;
  • Access to low-cost, commission-free stock and bond ETFs;
  • Choice of different account types.

Conclusion

Are you interested in learning how to invest in oil wells? I don’t blame you. There are many people making serious profits from oil investing, so now’s your opportunity to get your piece of the pie.

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