Qualified Small Business Stock

IRC §1202 is the most valuable single provision in the code for a founder, because it can take the tax on a business sale to zero. Stock that qualifies as qualified small business stock (QSBS) is eligible for an exclusion of capital gain on sale — and OBBBA expanded the provision substantially.

The qualifying conditions are strict and must all hold:

• The stock is issued by a domestic C-corporation. An LLC or S-corporation cannot issue QSBS. A founder who began as an LLC must convert to a C-corporation — generally a tax-free transaction under IRC §351, “Transfer to corporation controlled by transferor” — and the QSBS holding clock starts only at that conversion.
• You acquired the stock at original issue, in exchange for money, property, or services — not on the secondary market.
• The corporation’s aggregate gross assets did not exceed $75 million at any time before, or immediately after, the stock was issued. (This ceiling was $50 million before OBBBA.)
• The corporation runs an active qualified business. The same service fields excluded from the IRC §199A deduction — plus banking, insurance, farming, mining, and hospitality — are excluded here too.

For stock acquired after July 4, 2025, OBBBA introduced a tiered holding period and raised the cap:

Held 3 to 4 years

50% of the gain is excluded.

Held 4 to 5 years

75% is excluded.

Held 5 years or more

100% is excluded.

The per-issuer exclusion is capped at the greater of $15 million (up from $10 million, and indexed from 2027) or 10 times your basis in the stock. Two cautions temper the partial tiers: the non-excluded portion of QSBS gain is taxed at a 28% rate rather than the ordinary 20% long-term rate, and a slice of the excluded gain is an alternative-minimum-tax preference item — so the 50% and 75% tiers are good, but not as clean as the full 100% exclusion. Stock acquired before the OBBBA date keeps the old rules: $10 million cap, $50 million asset test, and a flat five-year hold for 100%.

One trap deserves a flag before you start counting years. If early capital came into the company through SAFEs or convertible notes — the default for venture-backed startups — the holding clock may not start when the instrument was signed. Whether a SAFE counts as stock for IRC §1202, and therefore whether its holding period runs from issuance or only from its later conversion into preferred stock, is unsettled. A founder or early investor who assumes the clock started at the SAFE can miscalculate the exit by a year or more — section “QSBS and Section 1202” works through the question.

Because the cap is measured per taxpayer, founders with gains well above $15 million sometimes multiply it by gifting QSBS to irrevocable non-grantor trusts for family members — each trust is a separate taxpayer with its own cap. “Stacking” is legitimate but advanced: it requires properly structured non-grantor trusts and coordination with the estate plan (section “Estate planning”), and it should not be attempted without counsel. Note also that some states, California among them, do not conform to IRC §1202 — the exclusion shelters federal tax only, and state tax still applies. The investor’s side of QSBS, including the IRC §1045 rollover that preserves the clock when one qualifying stock is swapped for another, is covered in section “QSBS and Section 1202”.