Worthless shares and their taxation treatment

When companies are placed in liquidation or administration, the shares they have on issue may become worthless. In this situation, company law may restrict investors being able to transfer these shares to other investors.

A declaration may be issued by either the liquidator or administrator, as relevant, stating that investors are unlikely to receive any further distributions from the shares they hold. The investor at this point may chose to realise a capital loss on their worthless stock.

Broadly, a declaration must be in writing and state that there is reasonable grounds to believe that no further distributions will happen in connection with the worthless shares.

An investor cannot claim a capital loss where the declaration considers that the shares are worthless but it does not make a declaration that the shares are of little to no value.

Financial instruments include (but are not limited to) the following assets:

  • Convertible notes
  • Bonds
  • Debentures
  • Promissory notes
  • Futures contracts
  • Loans to the company
  • Forward contracts and currency swap contracts
  • Rights or options to acquire any of the above listed securities, including rights or options to acquire shares.

For shares, a declaration must be in writing and state that there are reasonable grounds to believe that there is no likelihood that shareholders in the company will receive any further distribution for their shares.

For financial instruments, the declaration must be in writing and state that the financial instruments have no value or have only negligible value.

Where the above requirements for declarations are not satisfied, an investor may not claim a capital loss.

Yes, administrators and liquidators may refer to shares and financial instruments in the same declaration.  For example, the declaration may refer to both shares and an option to acquire shares.

However, the investor will not be able to claim a capital loss for a financial instrument such as an option to acquire shares, if the liquidator or administrator provides in the declaration they considers the shares are worthless, but they do not make a declaration that they consider the financial instrument is of no value or has only negligible value. 

To be able to crystallise a capital loss in respect of worthless shares there are generally three options:

  • Continue to hold the worthless shares and wait for a court order to be issued cancelling the shares
  • Where the relevant declarations have been made by the company administrator or liquidator, an investor may claim a capital loss in the income year the declaration is made

The investor may be able to sell their shares or financial instruments.  Certain organisations such as www.delisted.com.au provide a service where they will purchase certain worthless shares

If no declaration is made by a liquidator or administrator, or the investor has not chosen to make a capital loss following a declaration, an investor may make a capital loss on their worthless shares when a court order is given to dissolve the company and the shares are cancelled. In addition, if a company is wound up voluntarily, shareholders may realise a capital loss either three months after a liquidator lodges a tax return showing that the final meeting of the company has been held, or on another date declared by a court.

An investor may choose to make a capital loss if all five of the following conditions are satisfied:

  1. The investor is an Australian resident for income tax purposes
  2. The investor holds a share or a financial instrument relating to a company that went into liquidation or administration
  3. The share or financial instrument is a capital gains tax (CGT) asset that was purchased after 19 September 1985
  4. A liquidator or administrator of the company has issued a written declaration that they believe investors are unlikely to receive any further distributions from the shares they hold, or the financial instruments investors hold have no value or have only negligible value
  5. Any gain or loss an investor would make on the share or financial instrument is a capital gain or capital loss - that is, an investor held the share or financial instrument on capital account.

Where an investor chooses to make a capital loss, the loss will relate to the tax year the declaration is made.

An investor is not able to claim a capital loss where the assets they hold are regarded as being on revenue account for taxation purposes. This typically includes traditional securities and assets held by an investor as trading stock.

In addition, units in a unit trust or financial instruments relating to trusts are not considered to be eligible assets for which investors may be able to claim a capital loss.

Certain interests acquired under employee share schemes are also not considered eligible assets for which investors may be able to claim a capital loss.

If an investor chooses to make the capital loss when a declaration is made, the capital loss is equal to the reduced cost base of the shares at the time of the declaration by the liquidator or administrator. The cost base and reduced cost base of the worthless shares are then reduced to nil just after the liquidator or administrator makes the declaration. The capital loss can only be crystallised in this respect in the year the declaration was made.

An investor may receive a further payment in respect of worthless shares if, for example, court action commenced that was successful in recovering money for the company or its shareholders.

If such a payment is received after the date of any declaration by a liquidator or administrator and the payment is not assessable to a shareholder as a dividend, the investor may make a capital gain at the time the amount is paid.

The exception to the above is where the payment is made to a shareholder by a liquidator after the declaration

and the company is dissolved within 18 months of such a payment. In that case, the payment is included as capital proceeds on the cancellation of your shares (rather than making a capital gain at the time of the payment). Investors should consider not declaring any capital gain until those shares are cancelled, unless advice is provided by the liquidator in writing that the company will not cease to exist within 18 months of the payment being made.

We will use best endeavours to report on any loss declarations as they apply to an investor’s portfolio, to provide investors the ability to elect whether to crystallise a capital loss in the year the declaration was made.  However, due to circumstances outside of our control, relevant information may not be received in a timely manner or at all.  Where an investor or their adviser has been made aware that a company in which they have invested, is in liquidation or administration, they should generally seek to monitor any events relating to these assets that may have a tax impact.