Depletion Calculation: A Simple Guide with Examples
Depletion calculation uses the units-of-production method to spread a natural resource’s cost over the units extracted. The formula: depletion rate per unit = (capitalized resource cost − salvage value) ÷ estimated recoverable units. Multiply that rate by units extracted to get the period’s depletion. Cost tied to unsold units stays in inventory.
The biggest mistakes usually happen before you multiply anything, when you decide which costs belong in the resource account. This guide covers book depletion under U.S. GAAP (generally accepted accounting principles), with a short note on tax depletion for EA candidates near the end. All examples are hypothetical.
Video lesson: Watch Professor Farhat walk through how to build the depletion base and allocate it to the units extracted. If you like seeing the steps before reading them, start here.
What does depletion mean?
Depletion is the allocation of cost for resources such as mineral deposits, petroleum, and standing timber as they are removed. These are sometimes called wasting assets. The resource is physically consumed through extraction or harvesting.
Depreciation allocates the cost of equipment used to extract the resource. A mine and its delivery truck are separate assets, even when they work together. Depletion is also a cost-allocation process, not a calculation of today’s market value.
Here’s how the three cost-allocation methods compare:
| Method | Applies to | Usual pattern |
|---|---|---|
| Depletion | Natural resources such as minerals, oil and gas, and timber | Units of production |
| Depreciation | Tangible assets such as equipment and buildings | Straight-line, declining balance, or units of production |
| Amortization | Intangible assets with a limited life, such as patents | Usually straight-line |
If units of production looks familiar, it’s the same idea used in units-of-production depreciation.
Depletion calculation starts with the cost base
To capitalize a cost means to record it as part of an asset rather than immediately as an expense. In this article, “depletable base” means the capitalized resource cost after subtracting salvage value. This definition avoids subtracting salvage twice.
| Item | Treatment in this lesson |
|---|---|
| Acquisition | Include the qualifying cost of obtaining the property or resource rights. |
| Exploration | For the examples in this guide, assume exploration costs are expensed as incurred unless stated otherwise. Actual treatment depends on the applicable accounting method. Oil and gas companies may use successful efforts or full cost, which treat exploration differently. |
| Intangible development | Include qualifying drilling, tunnel, shaft, and well development costs. |
| Movable equipment | Record separately and depreciate; do not add the truck or machinery purchase price to the resource base. |
| Restoration obligation | Include the initially recognized asset retirement cost, measured using the obligation’s fair value. |
| Salvage value | Subtract the expected residual amount after extraction. |
A resource right may first be recorded as undeveloped property and assigned to the resource after a successful search. Unsuccessful exploration does not automatically require a write-off of all acquisition costs. The treatment depends on the applicable accounting method and whether impairment, abandonment, or expiration requires a write-down or write-off. Do not assume all exploration spending automatically creates an asset: the full-cost versus successful-efforts comparison explains why the policy matters.
Restoration refers to putting the site back into the required condition. When a problem gives you both the fair value of the obligation and the total future payment, use the fair value. The undiscounted future payment is not the amount you capitalize. The FASB’s historical summary of Statement 143 explains the liability and associated capitalized cost; current guidance is codified in ASC 410. For the full journal entries, see our asset retirement obligation guide.
A simple depletion calculation example
Hypothetical example: Cedar Ridge Minerals pays $940,000 for a resource property, incurs $240,000 of qualifying intangible development, and recognizes a $120,000 restoration obligation at fair value. Expected salvage value is $100,000. Estimated recoverable ore is 300,000 tons.
It also spends $60,000 on exploration, which the problem requires it to expense, and $180,000 on a movable loader. Neither amount belongs in this depletion calculation.
| Step | Calculation | Result |
|---|---|---|
| Capitalized resource cost | $940,000 + $240,000 + $120,000 | $1,300,000 |
| Depletable base | $1,300,000 − $100,000 | $1,200,000 |
| Rate per ton | $1,200,000 ÷ 300,000 tons | $4 per ton |
| Cost assigned to extraction | 45,000 tons × $4 | $180,000 |
If Cedar Ridge sells only 35,000 of those tons, $140,000 of depletion cost reaches cost of goods sold and $40,000 remains in inventory. These amounts include only the depletion component, not other production costs. See the depletion journal entry and inventory reconciliation for the accounting steps.
Want more practice like this? Explore the Intermediate Accounting course, or try the Farhat Lectures free sample course first.
How do revised reserves change the depletion rate?
A new reserve estimate changes the depletion calculation prospectively: use it for the current and future allocation affected by the revision. Do not recompute earlier years merely because new information becomes available. This is a change in accounting estimate under ASC 250. For the broader rules, see how a change in accounting estimate works.
Suppose the revision occurs at the start of year 2, after the 45,000 tons above were extracted. Cedar Ridge’s remaining depletable amount is $1,020,000 ($1,200,000 − $180,000). Engineers now estimate 340,000 tons remain.
Revised rate = $1,020,000 ÷ 340,000 = $3 per ton. If year 2 extraction is 50,000 tons, the newly allocated depletion cost is $150,000. The denominator is the revised remaining quantity; adding the already extracted tons would understate the rate.
Equivalently, start with the resource’s $1,120,000 carrying amount and subtract its unchanged $100,000 salvage value. The same $1,020,000 remains to allocate. State when the estimate changes so it is clear which production uses the new rate.
Common depletion calculation mistakes
- Using units sold for extraction: extraction determines the cost transferred out of the resource; sales determine the portion expensed.
- Including every development purchase: movable equipment is depreciated separately. A fixed site-specific structure is generally depreciated over its useful life or the resource’s life, whichever is shorter.
- Subtracting salvage twice: check whether the stated base is gross cost or already net of salvage.
- Keeping the old rate after a reserve revision: divide the remaining depletable amount by the remaining units, starting with the period the revision affects.
- Mixing book and tax depletion: book depletion follows units extracted. Tax cost depletion for mineral property generally uses units sold; timber has separate rules. See the tax section below.
How is tax depletion different from book depletion?
Everything above is book depletion, the amount you report in financial statements. If you’re preparing for the EA exam or a tax course, tax depletion follows its own rules.
For mineral property, tax cost depletion divides the adjusted basis for depletion by total recoverable units, then multiplies the rate by units sold during the tax year. The basis for depletion reflects adjustments such as prior depletion and excludes amounts recoverable through depreciation or other deductions, residual land value, and other amounts outside the mineral deposit. Total recoverable units equals the units remaining at year end, including minerals already extracted but unsold, plus the units sold during the year. Units treated as sold depend on the taxpayer’s accounting method.
Quick example: a mineral property has a $1,200,000 adjusted basis for depletion after the applicable exclusions. During the year, 50,000 tons are treated as sold and 350,000 recoverable tons remain at year end, including any extracted but unsold units. The rate is $1,200,000 ÷ 400,000 tons = $3 per ton, so cost depletion is 50,000 × $3 = $150,000.
Percentage depletion applies a statutory rate to the gross income from the property, subject to limits, and it isn’t available for every resource. Standing timber, for example, can use cost depletion only. Where both methods are allowed, the taxpayer generally deducts the larger amount.
Timber follows separate rules. Timber depletion is calculated using the units cut during the year. Depletion attributable to cut timber that remains unsold is generally included in closing inventory and deducted when the timber or products are sold or otherwise disposed of. A qualifying election to treat cutting as a sale under Internal Revenue Code section 631(a) changes that timing.
Exam tip: book depletion follows units extracted. Tax cost depletion for mineral property generally uses units sold. For timber, calculate depletion using units cut and apply the relevant inventory and deduction-timing rules.
Quick check: test your depletion basics
Depletion allocates the cost of natural resources such as minerals, petroleum, and timber as they are extracted or harvested. Acquisition, exploration, development, and restoration are the four cost categories to evaluate. Subtract salvage value from the capitalized resource cost to determine the depletable base.
Three quick questions
Choose one answer per question, then select Check answers.
Review the answer explanations
- Depletion assigns the resource’s cost to the units extracted or harvested.
- Extraction or harvesting reduces the physical quantity of the resource.
- Consider acquisition, exploration, development, and restoration. Include only costs that qualify for capitalization under the applicable accounting policy.
Depletion calculation practice problems with answers
1. Find the rate
A hypothetical deposit costs $780,000 including all qualifying capitalized costs. Salvage is $60,000 and recoverable output is 240,000 units. What is the depletion rate?
Answer: $3 per unit: ($780,000 − $60,000) ÷ 240,000. Only the $720,000 depletable amount is allocated.
2. Separate extraction from expense
Using that $3 rate, 20,000 units are extracted and 16,000 sold. There is no beginning inventory. What is the depletion cost in ending inventory?
Answer: $12,000: 4,000 unsold units × $3. Total extraction receives $60,000; the sold units carry $48,000 into expense.
3. Revise an estimate
A resource has $630,000 left to deplete and a revised estimate of 210,000 remaining units. Must prior depletion be changed?
Answer: No. The new rate is $3 per unit for production affected by the revised estimate. A genuine estimate update does not erase prior cost allocations.
4. Build the base
A hypothetical company pays $500,000 for mineral rights, spends $90,000 on exploration that the problem says to expense, incurs $210,000 of tunnel and shaft development, buys a $150,000 movable drill, and recognizes a $40,000 restoration obligation at fair value. Salvage is $50,000 and recoverable output is 200,000 tons. What is the depletion rate?
Answer: $3.50 per ton. The capitalized resource cost is $750,000 ($500,000 + $210,000 + $40,000). Subtract $50,000 salvage to get $700,000, then divide by 200,000 tons. The exploration is expensed, and the drill is depreciated separately.
Key takeaways
- Depletion rate per unit = (capitalized resource cost − salvage value) ÷ estimated recoverable units.
- Book depletion for the period = rate × units extracted. Units sold decide how much reaches cost of goods sold.
- The depletion base usually includes acquisition, intangible development, and restoration costs. Movable equipment is depreciated separately.
- A revised reserve estimate changes the rate going forward only. Divide the remaining depletable amount by the remaining units.
- Tax cost depletion for mineral property generally uses units sold. Timber follows separate cutting and deduction-timing rules.
Frequently asked questions
Is depletion based on time?
No. Depletion usually uses the units-of-production method, so it follows the quantity extracted rather than the passage of time. A year with more extraction carries more depletion cost.
Are exploration costs always expensed?
No. The examples in this guide assume exploration costs are expensed as incurred unless stated otherwise. Actual treatment depends on the applicable accounting method. For oil and gas activities, successful efforts generally expenses unsuccessful exploration costs, while full cost generally capitalizes exploration costs, including unsuccessful efforts, subject to its rules and limitations.
Does a higher reserve estimate always lower the rate?
It lowers the rate if the remaining depletable amount stays unchanged. Additional capitalized costs or a salvage revision can also change the numerator.
What is the formula for depletion?
Depletion rate per unit = (capitalized resource cost − salvage value) ÷ estimated recoverable units. Multiply the rate by units extracted to get the period’s depletion. For example, a $1,200,000 depletable base and 300,000 recoverable tons give $4 per ton.
Is depletion based on units extracted or units sold?
For financial reporting, depletion follows units extracted. Units sold decide how much of that cost moves to cost of goods sold, and the rest stays in inventory. Tax cost depletion for mineral property generally uses units sold. Timber depletion is calculated using units cut, with the deduction generally taken when the timber or products are sold or otherwise disposed of, unless a qualifying section 631(a) election applies.
What is the difference between depletion and depreciation?
Depletion allocates the cost of a natural resource as it’s physically removed. Depreciation allocates the cost of tangible assets like the equipment used to extract it. A mine is depleted; the loader working in it is depreciated.
Sources and lesson context
Scope: Wiley Intermediate Accounting, section 10.3, Depletion, including the cost base, allocation, and recoverable-reserve discussion. The FASB Accounting Standards Codification contains current U.S. generally accepted accounting principles (U.S. GAAP); relevant topics include ASC 250 for estimates and ASC 410 for retirement obligations. All numerical examples here are original. For tax depletion, see Internal Revenue Code sections 611 through 613A, Treasury Regulation sections 1.611-2 and 1.611-3, and the depletion discussion in IRS Publication 225. The timber-cutting election is addressed in Internal Revenue Code section 631(a).
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Mansour Farhat is the instructor behind Farhat Lectures, which offers courses for CPA, CMA, and EA candidates and accounting students. Learn more on the About page.
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