Section 1244 Stock: What Ordinary Loss Treatment Requires

Section 1244 Stock: What Ordinary Loss Treatment Requires

Most investors learn the capital loss rules the hard way: your startup fails, you lose $80,000, and the tax code lets you use only $3,000 of it against ordinary income in a year. Section 1244 stock is the exception. If the stock qualifies, the loss on it can be an ordinary loss, which offsets salary and business income dollar for dollar, up to a cap.

The catch is that qualification is largely decided when the shares are issued, not when they go to zero. A founder who finds out at the worst moment generally cannot fix how the shares were issued.

A firm that does monthly accounting and tax for startups and small businesses, Iota Finance, is covered at the end. Iota Finance is a paid featured member of Sam's List.

What Section 1244 Stock Does: Ordinary Loss Instead of Capital Loss

The short answer: if you sell Section 1244 stock at a loss, or it becomes worthless, the loss can generally be treated as an ordinary loss rather than a capital loss, up to an annual limit. The rest stays a capital loss.

The difference is large. A capital loss generally offsets capital gains in full, but other income only up to $3,000 a year, with the rest carried forward. An ordinary loss can reduce wages and business income directly, which matters most to someone with a salary or profitable business alongside the failed investment.

The limitation: the ordinary treatment applies to losses, not gains. If the company succeeds and you sell at a profit, the gain is generally capital gain like any other stock, so Section 1244 is a downside protection, not a tax break on winning.

The Section 1244 Ordinary Loss Limit: $50,000 or $100,000 a Year

The Section 1244 ordinary loss limit is generally $50,000 per year for an individual, or $100,000 per year for spouses filing a joint return. The cap applies to the loss in a single tax year, whether the loss comes from one company or several.

Anything above the cap is not lost. The excess is treated as a capital loss, with the usual capital loss rules. Someone who loses $120,000 on qualifying stock and files a single return can generally take $50,000 as ordinary and treat the remaining $70,000 as capital.

The limitation: the cap is per year, so timing matters. Worthlessness has to be established in the right year, which is a facts question, so ask a tax professional before you pick the year.

Who Can Claim Section 1244 Stock: Original Issuance to an Individual or Partnership

Section 1244 follows the original owner. The stock generally has to be issued by the corporation directly to an individual or a partnership. If you buy shares from another shareholder, receive them as a gift, or inherit them, you generally do not get Section 1244 treatment on them.

For a partnership, the benefit generally goes to the partners at the time of issuance, not those who join later. Trusts, estates and most corporate shareholders are generally outside the rule.

The limitation: a secondary purchase of founder shares, however early, is a poor candidate. Assume you do not qualify until a professional says you do.

What You Must Pay: Money or Property, Not Services

The stock must be issued in exchange for money or property. Stock received for services does not count. A co-founder who gets shares for sweat equity, a developer paid in stock, or an advisor given shares for their time generally cannot claim Section 1244 treatment on them.

Property can count, but the details matter. Stock and securities contributed to the company generally are not property for this purpose, and if property is worth less than its basis when contributed, the ordinary loss amount may be reduced.

The limitation: a founder who contributes cash and also gets shares for services may hold two blocks of stock with different treatment, and the records have to keep them apart.

The Company Test: Small Business Corporation Stock Requirements

Small business corporation stock requirements are about the issuing company. In general, the corporation must be a domestic corporation, and the total money and property it received for its stock, as contributions to capital and as paid-in surplus, must be $1 million or less at the time the stock is issued.

There is also a gross receipts test. Generally, for the five tax years before the loss, or the corporation's whole life if shorter, more than half of its gross receipts must come from sources other than passive items such as royalties, rents, dividends, interest, annuities and gains from selling securities. In many cases that test applies only if the company's deductions exceeded its income over those years, which describes many startups. Confirm how it applies to yours.

The stock must also be common or preferred stock. An LLC taxed as a partnership does not issue Section 1244 stock, while an S corporation can, because the rule is about the stock, not the tax election.

The limitation: the $1 million line is easy to cross in a later round, and it looks at what the corporation has received in total. Rely on the company's records, not memory, to say where it stood on the issuance date.

Section 1244 Versus QSBS: Two Different Provisions

Section 1244 and the qualified small business stock rules under Section 1202 are often mentioned together, and they do opposite jobs. Section 1202 can allow some investors to exclude part of the gain when a qualifying C corporation's stock is held long enough and sold at a profit. Section 1244 helps when the stock loses money.

They have different tests, company-size limits and holding requirements. The same shares can sometimes meet both, but one deals with a gain and the other with a loss.

The limitation: do not assume QSBS is Section 1244 stock, or the reverse. Each is a separate analysis.

Iota Finance: Accounting and Tax for Startups and Small Businesses

Iota Finance is a CPA-led firm based in Florida (its profile lists the state, not a city), founded in 2022, with 7 employees. Igor Tutelman, CPA, is its managing partner. It serves clients nationwide with monthly accounting, tax and fractional CFO work for small businesses, startups and entrepreneurs, and lists minimums of $200,000 in income, $500,000 in revenue and $500,000 raised.

Section 1244 turns on records: what the company received for its shares, and when. A firm that keeps a startup's books and prepares its returns can document those facts as they happen, instead of rebuilding them after a failure.

Iota Finance has 14 verified client reviews on Sam's List as of 2026-10-02. Each review is submitted by an individual who identifies as a client of the firm and rates it on communication, subject-matter knowledge, and overall satisfaction. Reviews reflect those individual experiences and do not represent an endorsement by Sam's List. Iota Finance is a paid featured member of Sam's List. Ratings and rankings are not indicative of future performance or results.

The limitation, plainly: a seven-person firm founded in 2022 has finite capacity and a short track record, and its listed minimums put very early or very small companies outside its range. A CPA firm can document and report the facts, but it is not a securities lawyer, and who qualifies is a question for your own advisors.

Frequently Asked Questions

What is Section 1244 stock?

Stock in a qualifying small corporation, issued directly to an individual or partnership for money or property, where a loss can generally be treated as an ordinary loss rather than a capital loss, up to an annual cap. It depends on how the stock was issued and the company's history, so confirm with a tax professional.

What is the Section 1244 ordinary loss limit?

Generally $50,000 a year for an individual and $100,000 a year for spouses filing jointly. Loss above that amount is generally a capital loss. The limit applies to all Section 1244 losses in the year, not to each company separately, so keep your records by year.

Does stock issued for services qualify for Section 1244?

Generally not. The stock must be issued for money or property, and shares received for work or services do not qualify. Founders who contribute cash and also earn shares for services may hold both kinds, so document which shares were bought and which were granted.

Can I claim Section 1244 on stock I bought from another shareholder?

Generally not. The benefit follows the original issuance from the corporation to an individual or partnership. Shares bought from another holder, received as a gift or inherited do not carry it. If you are unsure how your shares were issued, ask the company for its issuance records.

If you hold shares in a company that is struggling, or you are about to put money into one, ask your CPA to confirm the Section 1244 position now, while the issuance records are easy to find. You can browse accountants on Sam's List, including the firm above.

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About the author: Kimberly Green is cofounder of Sam’s List, a directory and matching platform for financial professionals.