Articles & Alerts
Qualified Small Business Stock: A Big Deal in the One Big Beautiful Bill Act
As tax practitioners have had more time to sink their teeth into and analyze the minutiae of the One Big Beautiful Bill Act (OBBBA), it has become apparent that the updates made to Qualified Small Business Stock (QSBS) under Section 1202 are arguably some of the most impactful provisions in the Act.
Overview and Criteria
QSBS, under Section 1202, has been present in the Internal Revenue Code (IRC) since 1993, and has long been an extremely powerful tax benefit to those who invest in companies that qualify. It is exceedingly common in the venture capital and private equity space.
Section 1202 was enacted in 1993 to encourage investment in smaller U.S. businesses. If a business qualifies, an investor, upon the sale of their stock in the company, would be able to potentially exclude 100% of their capital gain and pay no federal tax on the appreciation of their interest. The benefit can potentially be amplified by state tax law, depending on an investor’s state of residency as each state has may have their own rules for the exclusion of QSBS capital gains. For instance, New York fully conforms to Section 1202, and New Jersey passed a bill to fully conform beginning in tax year 2026. However, California taxes gains on Section 1202 stock.
To qualify, the company and investor must meet and document the below criteria.
- The stock was issued by a domestic C corporation after August 10, 1993
- The C corporation must be a qualified small business with a maximum of $50 million gross assets when the stock was issued and immediately after the date of issuance
- The stock must be original issue stock as opposed to having been acquired from an existing shareholder
- The corporation must be an active business that uses at least 80% of its assets in a qualified trade or business
Exclusion Limits
Upon sale, the chart below shows the treatment of the gain. The changes enacted by the OBBBA are highlighted in the last row.
| Date of QSBS Issuance | Exclusion Percentage | Exclusion Limit |
|---|---|---|
| Aug 10, 1993 – Feb 17, 2009 | 50% (if held 5 years) | > of $10M or 10X Basis |
| Feb 18, 2009 – September 27, 2010 | 75% (if held 5 years) | > of $10M or 10X Basis |
| Sep 28, 2010 – July 4, 2025 | 100% (if held 5 years) | > of $10M or 10X Basis |
| July 5, 2025 – Present | 50/75/100% (if held 3/4/5 years) | > of $15M or 10X Basis |
Post-OBBBA Changes
The OBBBA has three major changes which strengthen QSBS: a shortened holding period, an increased per-issuer limitation, and an increase to the gross asset limit.
First, stock purchased after July 4, 2025, is eligible for a 50% gain exclusion after three years of holding, a 75% exclusion after 4 years of holding, and a 100% exclusion if held for five years or more. If the stock is held for more than three, but less than five years, the amount of gain that is ineligible to be excluded is taxed at the higher 28% collectible rate instead of the lower long-term capital gain rate of 20%.
This change provides investors with increased optionality. Whether for investment reasons, tax reasons, or cash flow, an investor who has met the three-year holding period can now derive a benefit from QSBS. While the higher collectible rate serves as an incentive to hold the stock for the full five years, the net tax benefit is still substantial. This makes QSBS more attractive to investors seeking a shorter holding period and was certainly included in the Act to encourage more activity in the QSBS space.
Second, the per-issuer limitation is increased to $15 million instead of $10 million for stock issued after July 4, 2025. It makes the asset class even more enticing to investors, with benefits that are unparalleled. This can be combined with a stacking strategy, where the exemption can be used multiple times. Since QSBS gain exclusion is a per-taxpayer benefit, trusts, children, family entities, and potentially the taxpayer and spouse can all have their own separate per-issuer limitation. QSBS can serve a pivotal role in estate planning and family wealth transfer.
Lastly, the gross asset limit for C corporations (issuer) to qualify for QSBS status has increased from $50 to $75 million for stock issued after July 4, 2025. This is also indexed for inflation beginning in 2027. This drastically widens the net of companies that will qualify and expands the pool of acquisition targets for investors.
It must be noted that the OBBBA also did not touch another powerful tool, Section 1045 rollovers, which allows investors to defer gains realized on the sale of QSBS held for more than 6 months when the investor uses the sale proceeds to purchase other QSBS (replacement QSBS) within 60 days of the sale.
The Importance of Planning
The OBBBA’s impact on QSBS cannot be understated; it is a case of a strong provision becoming even more powerful. The Act underscores the need for careful planning and execution, as QSBS structures are often complex and can involve multiple tiers. While it’s easy to grasp the big-picture benefits, it’s just as easy to trip over one of the four eligibility criteria or adopt a structure that disqualifies QSBS treatment. As part of the due diligence process on the front-end, investors should consult their tax advisors to ensure full compliance with Section 1202. For companies that are seeking external investment, it is also important to ensure that they are eligible for QSBS treatment, as it is an enticing and important incentive to investors in the QSBS arena.
For further guidance on how the OBBBA will impact your QSBS tax planning, please contact Matthew Talia, George Teixeira or your Anchin Relationship Partner.
