Most people go into business hoping to make money, but what if plans don’t turn out as you like. It is wise to plan for the worst case scenario. If your legal structure is a corporation, you can take advantage of code section 1244. Code section 1244 allows you to write off your capital losses against ordinary income. Normally, there is a limit to the amount of capital loss deduction you can take against ordinary income. This is so even though the amount of money you have tied in your basis is worthless.

What is basis in stock?

Think of basis in your stock as the cost of the stock in your corporation. Unlike a C Corporation, S Corporations basis go up with profits and contributions to the corporation. S Corporation basis also goes down with losses and distributions. When the corporation is sold, the basis is used to determine the gain or loss. If the price received for your stock is less than the basis, then you have a capital loss. Normally, capital gains are limited to $3,000 per year unless you make a section 1244 election.

Section 1244

If your corporation qualifies as a section 1244 company, you can take the losses against ordinary income without the $3000 limitation. To qualify you should have a well drafted corporate documents that includes a statement that your corporation is intended to be a Code Section 1244 company. If you make this election, be careful not to contribute more than $1million dollars to your corporation as this will disqualify you.

In summary, while no one goes into business with the intention to fail, setting up your corporation as a section 1244 qualified company, will allow you to limit your losses by taking advantage of this tax code.

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