Maximizing the Tax Benefits of a Loss on the Sale of Stock

Stock Certificate A well-known century-old proverb opines that, when life gives you lemons, you should make lemonade. This concept of making the best of even less-than-perfect situations holds true with taxes as with life in general. If one is an individual and must sell stock for a loss, one may be able to claim that loss as an ordinary one, rather than a capital loss, and reap the associated benefits.

In general, when a taxpayer sells stock and realizes a loss on the sale, the tax code requires that the taxpayer treat that as a capital loss. Capital losses by individuals, in most situations, are less tax advantageous than ordinary losses. However, individuals who realize losses on the sale of certain stocks may receive a respite. That’s because the tax code permits individual taxpayers to claim up to $50,000 of stock losses as ordinary losses if the stocks are Section 1244 stock.

The tax code defines Section 1244 stock as stock issued for money or property, excluding stock or securities. The stock must also be stock in a domestic small business corporation, which the law defines as a corporation that received a total of no more than $1 million for its stock or as a contribution to its capital. Finally, to qualify, the corporation must, during the most recent five tax years before the loss, have received a majority of gross receipts from something other than royalties, rents, dividends, interest, annuities, and gains from sales and trades of stocks or securities. If the corporation has not existed for five years, but has existed for at least one, then the law uses the 50% test on those tax years that ended before the loss. For corporations younger than one year old, the test applies to the entire duration of the corporation’s existence until the day of the loss. Also, in order to qualify and avail yourself to claim Section 1244 stock losses as ordinary losses, the code requires you to be the original owner of the stock. If the original owner of the stock was a partnership, you can still qualify for the ordinary loss treatment, but only if you were one of the entity’s partners when the corporation issued the stock to the partnership, and you remained as a partner the entire time until the loss occurred.

Finally, beware losses from older stocks. If the corporation issued the loss-triggering stock after July 19, 1984, it may be either preferred or common stock. However, if the issuance date was before July 19, 1984, only common stock qualifies for the ordinary loss treatment.

Few investors purchase a stock planning to realize a loss when they sell. However, in some situations, there are ways to use loss to the taxpayer’s advantage. To obtain qualified advice about your stock losses, contact the tax attorneys at Samuel C. Berger, P.C. and CPAs at S.C. Berger, P.C. We have the skill, along with years of experience aiding businesses throughout New York and New Jersey, to maximize the benefits afforded under the tax code. To consult our attorneys and CPAs, contact us online or call (201) 587-1500 or (212) 380-8117.

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