Expanded QSBS Tax Breaks Boost Opportunities for Tech Companies

Code section 1202 encourages early-stage investment in start-up ventures by rewarding risk capital with a tax-free exit. It allows a taxpayer to sell qualified small business stock (QSBS) and exclude part or all of the gain from taxable income. The maximum gain exclusion opportunity can be close to $500 million, if structured appropriately.

This tax incentive is particularly relevant to technology companies because they attract seed investment, are often organized as C corporations, and usually conduct qualifying businesses.

The recently enacted One Big Beautiful Bill (OBBB) materially enhances the QSBS gain exclusion. Technology companies and investors contemplating new capital investments can realize additional tax benefits. It’s important to note these changes only apply to QSBS issued after July 4, 2025.

5-Year Hold Requirement

As originally enacted, a QSBS holder could claim the gain exclusion after holding the QSBS for at least five years. There is now a graduated holding period:

• For QSBS held for three years, a selling shareholder can claim a 50% gain exclusion.
• For QSBS held for four years, a selling shareholder can claim a 75% gain exclusion.
• For QSBS held for five years or more, a selling shareholder can claim a 100% gain exclusion.

Gain Exclusion Calculation

The maximum gain a QSBS holder could traditionally exclude equaled the greater of $10 million or 10 times the holder’s basis in the QSBS. For example, an investor with $1 million of qualified basis who then sells QSBS after a 5-year hold can exclude up to $10 million of gain.

The updated statute now allows an otherwise qualified QSBS holder to exclude the greater of $15 million (indexed for inflation) or 10 times the holder’s basis in the QSBS. Under the above example, the investor could exclude up to $15 million of gain for stock issued after the effective date.

Various methods to maximize the gain exclusion appear to remain viable, including gifting QSBS, known as stacking, and converting tax partnerships (including LLCs taxed as partnerships) to C corporations to maximize the 10 times basis rule.

Gross Asset Test

Traditionally, only corporations with gross asset values (as defined under section 1202) under $50 million could issue QSBS. This amount has now been updated to $75 million, allowing more businesses to qualify.

For example, a technology company organized as an LLC tax partnership, with a FMV of $70 million, could consider converting to a C corporation to use the QSBS gain exclusion.

Next Steps for Qualified Small Business Stock

Many of the QSBS requirements remain unchanged, including the requirement that the subject C corporation conduct a qualified business and avoid certain disqualifying transfers and transactions.

These new QSBS provisions provide boosted opportunities for both investors and technology companies. Our tax team can assist with formation planning, strategies to maximize the gain exclusion, and avoid traps that could reduce or jeopardize the gain exclusion.