Stock losses are generally
considered capital losses, subject to the net capital loss limit of $3,000
per year on Form 1040. However, up to $50,000 ($100,000 on a Married
Filing Joint Return) of losses from the sale, exchange, or worthlessness
of Section 1244 stock qualifies for ordinary loss treatment. The Section
1244 loss can add to or cause a current year net operating loss for the
shareholder. Any excess losses over the $50,000/$100,000 limit are treated
as capital losses.
—Section 1244 Stock: The
corporation does not have to make any special designation for Section 1244
treatment. For stock to qualify under Section 1244, the following
requirements must be met:
1) Business must have been incorporated after 11/6/78.
2) Stock must be in the hands of the shareholder to whom it was originally
issued by the corporation.
3) Shareholder cannot be a corporation, trust, or an estate.
4) Corporation must be a small business corporation in which total capital
contributions do not exceed $1,000,000.
5) Stock must be issued for money or property (not for stock, securities,
or services).
6) For the five years ending before the
loss, the corporation must have derived more than 50% of its gross
receipts from sources other than royalties, rents, dividends,
interest, annuities, and gains from sales and exchanges of stocks or
securities. This limit does not apply if deductions (except those
for NOL and dividends received) exceed gross income. However, the
corporation generally must be an operating company.
—Section 1244 Stock Issued Before
11/7/78: To receive favorable Section 1244 loss treatment, corporations
generally had to designate stock as Section 1244 stock. See Reg.
§1.1244(c)-2(c).
Basis Of §1244 Stock
The basis of §1244 stock is limited to the
original capital contribution paid directly for the stock. Future
increases in overall basis will not increase the amount allocated to the §1244
stock. If the shareholder makes additional capital
contributions after the original stock purchase, the allowable loss
under §1244 is allocated in proportion to original basis to total
basis. [Reg. §1.1244(d)(2)]
Actual Loss x Original Basis = §1244 Loss
Total Basis
Partners and S Corporation
Shareholders: If a partnership acquires Section 1244 stock and later sells
at a loss, an ordinary loss deduction may be claimed only by
individuals who were partners when the stock was issued. However, loss
incurred by an S corporation on the sale of Section 1244 stock cannot be
passed on to the shareholders as an ordinary loss. They must
treat the loss as a capital loss subject to the $3,000 per year
limitation.
Reporting Requirements: Shareholders
report the Section 1244 loss on Form 4797, Part II.
The following must be kept by the
stockholder:
• Records which distinguish Section 1244
stock from other stock.
• Records showing that the corporation
qualified as a small business corporation.
• Records showing stockholder was
original holder of the stock.
• Records showing the stock was issued
for money or property.
• Records showing the amount paid for the
stock.
• Information relating to any property
transferred for the stock.
• Any information on tax-free stock
dividends issued on the stock.
• Gross receipts data for the most recent
five-year period. [Reg. §1.1244(e)-1(b)]
