18 January 1990 Income Tax Severed Letter AC745427 - Well Drilling Expenditures Capital vs. Income

Examination Division                            Business and
                                                  General
Jean-Marc Lalonde                                 Division
                                                R.B. Day
                                                957-2136
Well Drilling Expenditures
Capital vs. Income
                                    Your File:  4532-2 and 4533-5 
                                                7-4542

We are writing in reply to your memorandum of November 22, 1989, wherein you requested our opinion as to whether certain well drilling costs would be deductible in computing income or would be capitalized to the cost of land and equipment.

In this regard, you have noted that IT-472 paragraph 8(n) states that the cost of water well equipment, such as casing, cribwork and piping, are included in class 8 while the cost of drilling the well is a deductible expense. Similar commentary appears in the Farmer's Guide on page 11. You have, therefore, requested our opinion on the following situations:

1. If farmers are able to expense the cost of drilling against their farming income, can taxpayers with rental property claim the same type of expense against their income or should they capitalize the cost to the land or building?

2. A taxpayer incurs expenses of $7,000 for drilling a well and its casing and cover for his rental property. He realizes at the end of the year that the well is dry. At the beginning of the following year, he incurs expense to drill another well. Is the taxpayer permitted to claim the full $7,000 as drilling expenses (drilling, casing and cover) in the first year as a result of the unsuccessful drilling?

Our Comments

It is our view that, in the context of IT-472 , the comments contained therein relate to taxpayers who report income from either a business or property. As a consequence it is our opinion that, in both scenarios set out above, the drilling costs would be deductible from rental revenues and the cost of the casing, cover etc., would be included in class 8.

B.W. Dath Director Business and General Division Specialty Rulings Directorate Legislative and Intergovernmental Affairs Branch