Qualifying as Section 1244 Stock

Certain tests must be met for stock to qualify as Section 1244 stock.

Tests that must be met:

  • The corporation can have equity (total assets minus total liabilities) of not more than $1 million at the time the stock is issued.
    • If the $1 million equity limit is exceeded, the corporation must designate which shares qualify as Section 1244 stock (there is an IRS procedure for this).
    • Preferred stock issued after July 18, 1984, may qualify for Section 1244 loss treatment as well as common stock.
  • The stock must be issued for money or property (other than stock and securities).
  • More than half the corporation's income for the preceding five years before the loss must have come from business operations and not from passive income such as, rents, royalties, interest, dividends, annuities, or gains from the sales or exchange of stock or securities.
    • If the corporation has not been in existence for five years, then the years it has been in existence will be examined for the gross receipts test.
    • If the corporation's deductions (other than the dividends received deduction and net operating loss deduction) exceed gross receipts, the five year requirement is waived.
  • You must be the original owner of the stock to get the ordinary loss deduction.
  • You must acquire the stock by purchase (not inheritance or gift).

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  • See the Tax Basics for Startups table of contents and scroll down to the Section 1244 Stock link for more information.