Question

In 2001, Pagan contributed $150,000 cash to her corporation, Tax corporation in exchange for stock. The business never attained success the way Pagan would hope for. In 2011, Pagan sold her stocks to another party for $40,000. Pagan tax loss on her sale of stock is $110,000 ($40,000 - $150,000). The stock qualifies as section 1244 stock. Pagan files a return with her wife and can claim $100,000 ordinary loss and $10,000 as capital loss instead of $110,000 capital loss at 20% rate.

Answer 1

Given that the stock qualifies as section 1244 stock,ie.

Pagan is the original owner/purchaser of the stock.

He has acquired it for cash

Tax Corporation might have had an equity of $ 1 million or less , at the time of issue of these shares of stock.

Section 1244 of the Internal Revenue Code enables shareholders of such small domestic corporations to deduct a loss incurred on sale/ disposal of their stock as an ordinary loss ,rather than as a capital loss, which is limited to only $3,000 annually & anything in excess of $ 3000 ,to be carried forward to the next year--- as normally stocks are considered as capital assets---but for these small -company & having- become -worthless- stocks specifically mentioned.

So, a loss on sale of Section 1244-qualifying stock, is deductible as an ordinary loss -fully in the year of sale itself ,against ordinary business income.

Married individuals filing a joint return even if only one spouse owns the stock can claim upto to $100,000 of the loss as an ordinary loss

so the tax benefit is available immediately.

Loss in excess of that allowed under this section , is to be treated as capital loss.

So, Pagan's treatment of :

$ 100000 as ordinary loss &

$ 10000 as capital loss

is proper .