Tax Rules for Water Well Drilling

by Sharyl Stockstill - Updated September 26, 2017
New water wells qualify as a capital expense.

Water well drilling is considered a capital expense by the Internal Revenue Service (IRS) for general homeowners and businesses. According to the IRS website, the definition of a capital expense is: "A payment, or a debt incurred, for the acquisition, improvement, or restoration of an asset that is expected to last more than one year." The life expectancy of a water well is more than one year. However, repairs to a water well may qualify as an expense for the year it was repaired.

Homeowners

Homeowners who drill a water well on their property may not deduct the cost of drilling the well from their income taxes until they sell the property. When the property is sold, the cost of drilling the well can be added to the original purchase price of the property and then deducted from the sale price, which will lower any capital gains tax the homeowner may be subject to.

Business Owners

Business property owners who drill a new water well on their property may not deduct the cost of drilling the water well. Business owners may depreciate the cost of drilling the water well over the life expectancy of the well. For example, the water well has a life expectancy of 10 years. The cost of drilling the water well may be depreciated over that period of time. When the property is sold, only the portion of the cost not depreciated may be added as a capital expense to the sale of the property.

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Agricultural Industry

Similar to the business industry, drilling a new water well is considered a capital expense which may be depreciated over the life expectancy of the water well in the agricultural industry. In many agricultural situations, water wells provide water for livestock and crops and also for the owner's personal use. In this instance, only the percentage of use for agricultural purposes may be depreciated while the percentage for the owner's personal use may only be deducted as a capital expense when the property is sold.

Record Keeping

Due to the long life expectancy of a water well, keep your receipts until you sell the property and for long as they are needed for income tax purposes afterwards. Capital expenses are used for calculating capital gains and losses from property that is held longer than one year. Items such as real estate, including homes, industrial and agricultural properties, are subject to capital gains tax. A property owner who sells 10 years after the drilling of the well will need to have records of any capital expenses he incurred while he owned the property to deduct them from the sale.

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