Overview

Start-up and small business founders, owners, and investors should be keenly aware of the 2025 amendments to IRC Section 1202, which expanded the already extremely favorable tax treatment offered on sales of qualified small business stock (“QSBS”). With the enactment of the One Big Beautiful Bill Act in 2025, Section 1202 was amended to provide higher exclusion limits, a larger gross-asset threshold, and a new tiered holding-period schedule for QSBS acquired after July 4, 2025.

To illustrate the magnitude of the potential tax savings at issue, a shareholder who recognizes $10 million of gain from the sale of QSBS would owe no capital gains tax; by contrast, if this same stock did not qualify as QSBS, the shareholder would owe approximately $2 million in capital gains tax.

The framework for qualifying for this favorable tax treatment is outlined below; however, taxpayers should note that the QSBS analysis is complex and requires careful planning by both the small business and the taxpayer.

Requirements for QSBS

Section 1202 operates by granting taxpayers a limited exclusion amount when recognizing gains on the sale of QSBS. The exclusion amount is subject to certain limitations, and taxpayers and companies must meet a series of requirements for stock to qualify as QSBS.

For stock issued after July 4, 2025, the exclusion amount is the greater of (a) $15 million or (b) 10 times the aggregate adjusted basis of the stock. The $15 million exclusion amount is also indexed for inflation. For stock issued between August 11, 1993, and July 3, 2025, the exclusion amount is $10 million.

For stock to qualify as QSBS and for the related exclusion, the taxpayer and issuing company must meet certain objective requirements.

• The stock must be in a C corporation originally issued after August 10, 1993. Stock in small businesses organized as LLCs does not qualify.
• As of the date the stock was issued, the company was a domestic C corporation with total gross assets of $50 million or less (or $75 million or less for stock issued after July 2025). Note that these size limitations apply only at the time the stock was issued, regardless of how large the corporation subsequently grows. The 2025 expanded threshold allows somewhat larger companies to issue qualifying stock, and the $75 million amount is also indexed for inflation for taxable years beginning after 2026.
• The taxpayer must have acquired the stock at its original issue, i.e., not from a secondary market. Generally, stock received as a gift is considered acquired at original issuance.
• During the period that the taxpayer held the stock, the corporation was a C corporation, at least 80% of the value of the corporation’s assets were used in the “active conduct” of one more qualified businesses, and the corporation was not a foreign corporation or other prohibited type of corporation. The statute excludes businesses involving the performance of services in health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, and brokerage; banking, insurance, financing, leasing, and investing; farming; production or extraction of certain natural resources; and hotel, motel, restaurant, or similar businesses.
• The shareholder must meet certain holding period requirements. Before the 2025 legislation, QSBS acquired after September 27, 2010, and held for more than five years generally qualified for a 100% exclusion of gain (subject to certain limitations mentioned above). For QSBS acquired after July 4, 2025, the statute introduces a tiered exclusion that rewards longer holding periods:
• Held at least 3 years but less than 4 years — 50% of gain excluded.
• Held at least 4 years but less than 5 years — 75% of gain excluded.
• Held 5 years or more — 100% of gain excluded.

Under prior law, a taxpayer who sold QSBS before the five-year mark received no Section 1202 benefit at all. The new schedule allows partial exclusions beginning at three years, which may benefit founders and early investors who exit before the full five-year holding period.

• “Significant” redemptions of stock by the corporation can also disqualify stock from QSBS treatment. Generally, redemptions of more than five percent (5%) of the overall stock value (as opposed to the percent of outstanding shares) will disqualify stock that was issued one year prior and one year after the significant redemption. The value percentage threshold is lower, and the issuance window is longer when the buyback involves related parties.

While the savings offered by the QSBS exclusion are substantial, taxpayers should be aware that navigating the requirements and pitfalls requires a complex analysis. The foregoing is a non-exhaustive summary, and, as always, it is important that you consult with your CPA or tax counsel to ensure the QSBS requirements are met before making the exclusion. Taxpayers who have built-in gains exceeding or approaching the exclusion limitations (for example, around $10 million) should also consider taking advantage of more complex Section 1202 strategies, such as QSBS stacking. Feel free to contact one of the business/tax attorneys at Lasher if you would like to discuss this further.