News

By Evan Baken and Paul Staisiunas

The One Big Beautiful Bill Act (“OBBBA”) introduces several important changes to the QSBS provisions under the Internal Revenue Code. Long known as a keystone incentive for investment. In startups, the QSBS’s value has been significantly enhanced. With increased gain exclusion, shorter holding periods, and expanded eligibility, these new rules have the potential to rewrite how investors balance risk and reward.

For stock acquired after July 4, 2025 the per-issuer gain exclusion cap has increased from $10M to $15M, meaning upon a disposition of QSBS, the selling shareholder will be able to exclude all or a portion of its gain up to $15M or 10 times the shareholder’s aggregate cost basis in the stock that was sold, with indexing for inflation beginning in 2027. Another change is the introduction of a tiered holding period for capital gain exclusions. Under the new law, QSBS held for at least three years qualifies for a 50% exclusion, which increases to 75% for stock held four years and 100% for stock held five years or longer. Additionally, the gross asset threshold has been increased, requiring the corporation to have aggregate gross assets of no more than $75M at the time of the stock issuance, up from $50M.

To qualify, the company must be a U.S.-based C corporation when QSBS is issued, with at least 80% of its assets used in the active conduct of a “qualified” trade or business. Issuing corporations must avoid significant redemptions, meaning during a two-year period beginning one year before the stock issuance, the corporation cannot purchase stock worth more than 5% of the aggregate value of its outstanding shares.

Eligible shareholders include individuals, trusts, and pass-through entities. The shares must be purchased by the shareholder directly from the corporation and not through secondary markets. Shares must be issued for cash, services, or other property. Generally, stock acquired by exchanging shares of another corporation will not qualify as QSBS.

In the world of investing, identifying and capitalizing on lucrative opportunities is key. By leveraging these QSBS rules, investors can take substantial tax advantages by timing funding, diversifying, and exiting favorable investments, ultimately enhancing the returns on these investments.

As previously mentioned, one noteworthy change to the QSBS rules is the introduction of a tiered exclusion. With the ability to secure partial exclusions after three years, investors are less likely to be exposed to unexpected market downturns. The shorter holding period is especially attractive to independent sponsors, private equity sponsors, and other types of opportunistic investors as it aligns neatly with investment models. For example, a PE fund can tailor its investment model to allow early liquidation when market conditions permit, aligning the need for cash while preserving tax benefits for limited partners.

The increased gross asset cap makes QSBS benefits available to a broader pool of later-stage, capital-intensive startups. This is most appealing to investors looking to diversify their portfolios in small, fast-growth sectors like technology and science, where valuations scale quickly and require larger upfront funding. Investors should note the gross asset cap should be tested at all times before and after the issuance of QSBS for maintaining eligibility. With careful planning, companies can synergize the OBBBA’s enhanced 100% bonus depreciation with the gross asset testing requirement, strategically capturing eligibility. For example, if a Biotech startup invests substantial capital in manufacturing equipment and the company’s gross assets total exceed $75M, applying the enhanced bonus depreciation to write off the assets could potentially lower net assets for the purpose of qualifying for QSBS. Consult with your tax advisors to confirm whether these planning strategies apply to you.

QSBS must be issued by a QSB and acquired by the taxpayer at original issuance. “QSB” and “active trade or business” are legal definitions. Corporations engaged in many industries do not qualify. The IRS maintains it will abstain from opining on whether a corporation satisfies the “active business” requirement until future regulations or published guidance are promulgated. Additionally, certain transactions, new stock issuance, or failure to preserve QSBS treatment, can negate the original issuance requirement.

Notwithstanding the maintenance of QSB status, IRS reporting indicating the QSB’s satisfaction of the gross asset test is required. Many assets are disqualified from inclusion or are limited in these computations. Failure to properly compute and report gross assets accurately will incur penalties. Thorough recordkeeping, planning, and due diligence from the corporation’s inception are critical to QSB status. A formal review of the corporation’s initial and continued qualification as a QSB by an attorney is recommended.

One should also note that there are significant benefits to organizing a startup as a pass-through entity in lieu of a corporation in various scenarios. Choice-of-entity considerations are fact-dependent and should be reviewed by your attorneys and tax advisors. Please consult your tax advisor to determine which entity is right for you.

Alan Frankel is a founding partner of FLSV, advising Financial Service Companies and HNW individuals. Gregg Martorella provides tax and advisory services to businesses and HNW individuals. Isaiah Paul and Evan Baken are senior tax managers in the HNW group. Paul Staisiunas is a senior tax manager in the Business group.