When shares become worthless: here are the conditions under which you can claim a capital loss during a bankruptcy

Money Digest, Nov, 2002

Many of us have seen our blue chip stocks -- Nortel, Lucent and the like--become penny stocks right before our eyes. Of course you can sell those stocks and claim capital loss.

But what if you held a stock and the company went bankrupt? In this case, the company is not publicly traded. You can only claim capital loss when you sell, but there is no market to sell.

Revenue Canada has specific provisions for investors to claim capital losses under the following conditions that must be on public records:

1. The corporation has become bankrupt during the year, is insolvent and a wind-up order has been made during the year under the Winding-up and Restructuring Act.

2. The corporation is insolvent at the end of the year, does not carry out any business, has a share value of zero, and the corporation is expected to be wound up and is not expected to recommence business.

Under these conditions a taxpayer can elect to deem that the shares of the corporation have been disposed of at nil proceeds and claim the investment as a capital loss. (There is no special form to do this. You need to attach a note to your tax return indicating this election.)

The shares will be deemed to be reacquired the following year at no cost. Why? If the corporation is revived within 24 months, there will be another deemed disposition and reacquisition for the proceeds equal to the cost base of shares immediately before the first deemed disposition. This will create a capital gain equal to the capital gains claimed.

If the company trades on a foreign stock exchange, other conditions may apply. You may be able to claim the loss by selling your stock to a third party (not closely related to you) for a nominal amount and claim capital loss.