Your Loss Is Your Gain Taking a hit during hard times isn't necessarily a lose-lose situation if you're an S corporation.
By Joan Szabo
Opinions expressed by BIZ Experiences contributors are their own.
If your S corporation has suffered losses due to economic hardtimes, you may be able to save a lot in taxes from these losses ifyou have Section 1244 stock. As you know, one of the advantages ofan S corporation is that the firm's annual income or losses arepassed through to shareholders. Gains are reflected on theindividual shareholder's tax return, and losses aredeductible.
One of the big advantages of having Section 1244 stock is thatstockholders in an S corporation can claim an ordinary loss ratherthan a capital loss if the company runs into trouble, says PaulGada, a tax analyst with CCH Business Owner's Toolkit, adivision of Riverwoods, Illinois-based tax and business lawinformation provider CCH Inc.
What's the advantage of claiming ordinary losses overcapital losses? Individual stockholders are able to take morelosses and thus a bigger deduction on their returns. The maximumexcess capital loss that an individual taxpayer is allowed todeduct is $3,000 in any one year. Unused excess capital losses arecarried forward and may be used to offset future capital gains.
Ordinary losses are more attractive from a tax standpoint thancapital losses. In the year that qualifying Section 1244 stockbecomes worthless or is sold at a loss, the taxpayer may deduct upto $50,000 of the loss as an ordinary loss rather than a capitalloss. Those who are married and filing jointly may deduct up to$100,000. If the loss exceeds these limits, the excess willnormally be treated as a capital loss.
In addition, taxpayers with qualifying Section 1244 losses mayalso benefit from the carry-back and carry-over provisions of thenet operating loss rules. Unused Section 1244 losses may be carriedback for up to two preceding tax years and forward for up to 20years and can offset gross income in those years.
There are a number of qualifications you must meet to establishSection 1244 stock. For example, the S corporation issuing thestock must qualify as a small corporation at the time the stock isissued. In addition, the corporation must be actively involved in atrade or business, not just receiving rents or dividends.
As you see, Section 1244 stock provides a good insurance policyfor owners, particularly when tough economic times hit. Check withyour accountant to make sure you have this protection in place.
Great Falls, Virginia, writer Joan Szabo has reported on taxissues for 16 years.
