What happens when a company whose stock you have invested in goes bankrupt? When do you claim the loss and how?
With the announcement earlier this year of the bankruptcy of Nortel and the fears of GM and Chrysler going bankrupt many investors may be wondering how they claim a capital loss.
In order to claim a loss, the company must be bankrupt, no longer be operating or have been wound up and dissolved. However, claiming a capital loss on a bankrupt company may have unintended consequences.
Losses Must Be Real
Technically the term we use in the tax world is realized. In most cases if you wish to claim a loss on a stock you own, you must sell it to an unrelated third party (i.e. on the stock market). Selling your stocks puts an actual price on your sale which can be used to determine your loss.
In certain circumstances, you may be able to “realize” a loss without actually selling the stock.
Bankruptcy May Be Enough
When a company declares bankruptcy, it does not necessarily mean the company will go out of business. Bankruptcy is a court process where a company is given relief from its obligations to it creditors so that it can restructure itself. However, you can claim a loss if the company is considered bankrupt.
Making an Election
If you own stocks of public company that is bankrupt, you can elect to claim a loss on the shares. The loss is treated as a sale of the stocks at nil value and a re-purchase at nil value (the superficial loss rules do not apply here!).
The Spoiler
If you elect to claim the loss and the company emerges from bankruptcy operating within 24 months of your previous election, you will incur a capital gain equal to the original capital loss claimed. If it looks as though the company will not cease operating, then it may make sense to sell the stock.
Cease Trading or De-Listed?
Just as bankruptcy does not imply that a company is no operating nor does a cease trade order or delisting from the stock exchange imply a company is not operating. You will only be able to claim a loss if the company has ceased operations and there is no reason the believe the company will continue operations in the future.
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