The controller of Newform Oil Company has come to you for advice. Newform recently cleared a…

The controller of Newform Oil Company has come to you for
advice. Newform recently cleared a forested area and began drilling an oil well
on the site. The well is a gusher, and Newform’s geologists estimate that it
will produce for at least 10 years. Environmental restoration laws will require
Newform to completely reforest and restore the oil well site when the well is
taken out of production. An engineering firm hired by Newform estimates that
the cost of complying with the environmental requirements will be $8,000,000.
For financial accounting purposes, Newform intends to amortize the
»

The controller of Newform Oil Company has come to you for
advice. Newform recently cleared a forested area and began drilling an oil well
on the site. The well is a gusher, and Newform’s geologists estimate that it
will produce for at least 10 years. Environmental restoration laws will require
Newform to completely reforest and restore the oil well site when the well is
taken out of production. An engineering firm hired by Newform estimates that
the cost of complying with the environmental requirements will be $8,000,000.
For financial accounting purposes, Newform intends to amortize the estimated
cost over the 10-year expected life. In addition, it plans to put $500,000 per
year into an account that should provide the $8,000,000 necessary to perform
the restoration.

The controller would like your advice on the deductibility
of the costs of restoration. That is, when can Newform deduct the costs and how
much can it deduct? Based on the concepts discussed in this chapter, explain
what you think is the proper treatment of the restoration costs for tax
purposes.

»