The tax code includes a number of provisions that benefit small businesses and small business owners. One of these provisions is contained in Section 1202 which provides for an exclusion of up to 100% of the gain realized on the sale of qualified small business stock (“QSB Stock”). The gain exclusion can provide significant tax savings for owners of small businesses when they sell their stock. In order to qualify as QSB Stock under Section 1202, a number of technical requirements must be met with respect to the ownership of the stock and as to the underlying corporation, including that the stock must be acquired by the taxpayer at original issuance, held for at least 5 years, and be issued by a C corporation that is actively engaged in business and does not have assets in excess of $50 million (at the time of the stock’s issuance).
The Section 1202 exclusion is limited, and gains excluded under Section 1202 cannot exceed the greater of: $10 million or 10 times the QSB Stock’s basis.
Historically, Section 1202 is often overlooked as most private companies have generally preferred to be organized as pass-through entities. However, the recent reduction in the federal corporate tax rate to 21% may prompt a re-evaluation of whether treatment as a C corporation makes sense.