What is Section 1244 Stock?

Section 1244 of the Internal Revenue Code is the small business stock provision enacted to allow shareholders of domestic small business corporations to deduct a loss on the disposal of such stock as an ordinary loss rather than as a capital loss, which is limited to only $3,000 annually.

Qualifying as Section 1244 Stock

To qualify as Section 1244 stock:

The corporation's equity may not exceed $1,000,000 at the time the stock is issued.
The stock must be issued for money or property (other than stock and securities).
For the five years preceding the loss, the corporation must generally have derived more than half of its gross receipts from business operations and not from passive income such as rents, royalties, dividends, interest, annuities, or gains from the sales or exchange of stock or securities.

The Tax Benefit of Section 1244 Stock

Normally, stock is treated as a capital asset, and if disposed of at a loss, the loss is deducted as a capital loss.

The general rule for net capital losses (losses that exceed gains in any tax year) is that they are subject to an annual deduction limit of only $3,000. Any excess loss over $3,000 must be carried forward to a future year (individuals may not carry back a capital loss to prior years).

On the other hand, a loss on Section 1244 stock is not subject to the annual $3,000 deduction limit. A loss on Section 1244 stock is deductible up to $50,000 ($100,000 on a joint return, even if only one spouse has a Section 1244 loss).

To receive the tax benefit of Section 1244, the IRC prescribes specific requirements for...

the corporation issuing the small business stock
the stock itself, and
the shareholders of the corporation

Where to Claim a Section 1244 Loss