Qualified Small Business Stock After the July 2025 Law

If you founded a C-corporation, invested in it at original issuance, and hold the stock long enough, Section 1202 of the Internal Revenue Code can exclude part or all of the federal capital gains tax when you sell.¹ How much, and how long “long enough” is, now depends on when you acquired the stock: the July 2025 tax law split Section 1202 into two regimes divided by a single date.¹⁴

It is also easy to lose — and not because it is obscure. Most CPAs who work with founders know it exists. The difficulty is that the planning window closes long before the term sheet arrives. By the time a founder is sitting across from an investment banker discussing valuation, it is often too late to restructure. The work that preserves the exclusion happens 12 to 24 months before the sale, not 12 to 24 days before closing.

Here is what founders need to understand — and what their advisors need to verify — well in advance of any transaction.

What Section 1202 Actually Provides

Section 1202 lets a non-corporate taxpayer exclude gain on the sale of qualified small business stock from federal income tax. How much, and how long you have to hold, now turns on a single date: July 4, 2025, and which side of it your stock was acquired on.

Stock acquired on or before July 4, 2025. Hold it more than five years and the exclusion is 100% for stock acquired after September 27, 2010. There is no partial credit below five years. The per-issuer ceiling is the greater of $10 million or ten times your aggregate adjusted basis in the stock disposed of that year.

Stock acquired after July 4, 2025. The exclusion is tiered by holding period — 50% at three years, 75% at four years, 100% at five. The per-issuer ceiling is the greater of $15 million or ten times basis. The $15 million figure is indexed for inflation for tax years beginning after 2026. The $10 million figure is not.

Two things founders get wrong about the ceiling. It is the greater of the two tests, not the lesser — a founder with almost no basis is governed by the dollar figure, while an investor who paid $20 million for stock in the same company is governed by ten times basis and never reaches the dollar figure at all. And a founder holding both an older and a newer block in the same company does not get $10 million plus $15 million: the $15 million limit is reduced by gain already taken on the earlier block, both in prior years and in the same year.

Stock acquired before September 28, 2010 is layered further — a 50% exclusion for stock acquired before February 18, 2009, and 75% from that date through September 27, 2010.

The Five Requirements — All Must Be Met

QSBS eligibility is binary. A single failed requirement disqualifies the entire exclusion. These are the five gates every founder should verify before assuming they qualify.

1. The Company Must Be a Domestic C-Corporation

QSBS applies only to stock issued by a domestic C-corporation — not an S-corporation, not an LLC taxed as a partnership, not an LLC taxed as an S-corp.⁶

Many founders organize as S-corps or LLCs for pass-through tax treatment and convert to C-corps later — sometimes immediately before seeking venture funding or pursuing a sale. The QSBS holding period does not begin until after the conversion. If you converted from an S-corp to a C-corp three years ago and are planning a sale today, you may not yet meet the five-year holding requirement. The clock resets at conversion.

2. Gross Assets Must Not Have Exceeded the Ceiling at Issuance — $50 Million or $75 Million

The company's aggregate gross assets, including the proceeds of the issuance itself, must not have exceeded the ceiling at any time before the stock was issued, and must not exceed it immediately after.

The ceiling is $50 million for stock issued on or before July 4, 2025 and $75 million for stock issued after that date. Note the difference from the rules above: this one turns on when the stock was issued, not on your tax year.

This is the requirement most often failed by assumption rather than by fact. “Aggregate gross assets” means cash plus the adjusted tax basis of the company's other property. It is not a valuation test. A company carrying a $600 million valuation can sit comfortably under a basis ceiling, and founders who assume the ceiling refers to what the company is worth talk themselves out of an exclusion they qualify for. Property contributed to the company is counted at its fair market value at the time of contribution rather than its carryover basis.

3. The Business Must Be a Qualified Trade or Business

Section 1202 excludes several industries from eligibility.⁸ Disqualified businesses include:

• Professional services where reputation or skill of employees is a principal asset: health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, and athletics
• Financial services, insurance, and brokerage
• Banking, leasing, and financing
• Hospitality (hotels, restaurants)
• Oil and gas extraction

Qualifying businesses generally include technology, software, manufacturing, retail, wholesale trade, medical devices, and scientific research. The consulting exclusion is broad enough to catch many founder-led professional service firms, and “consulting” has been interpreted expansively by the IRS. If your business derives value primarily from client relationships and the expertise of its principals, verify with a qualified tax attorney that you are not inadvertently excluded.

4. Stock Must Have Been Acquired at Original Issuance

The exclusion applies only to stock received directly from the corporation — in exchange for money, property, or services rendered — at the time of original issuance.⁶ Secondary market purchases, shares acquired through a secondary sale from another investor, and shares received as a gift do not qualify as original issuance.

Options and warrants that convert into shares are generally treated as issued at the time of exercise, not the time of grant. If you hold incentive stock options or warrants, the holding period and eligibility assessment begin when you exercise — a factor that affects the timing of exercise decisions for founders and early employees.

5. Shares Must Be Held Long Enough — and What Counts as Long Enough Depends on When You Bought

The holding period runs from the date of original issuance.

For stock acquired on or before July 4, 2025, five years is a cliff. A founder who sells in month 59 forecloses the exclusion entirely. There is no partial credit.

For stock acquired after July 4, 2025, it is a staircase. Three years gets 50%, four years gets 75%, five years gets 100%. Selling early costs part of the exclusion rather than all of it.

That distinction changes the conversation when a sale is being negotiated inside the window. Under the older rule the only question was whether closing could be pushed past the five-year date. Under the newer one there is a real calculation to run: what the additional exclusion is worth, against the risk of a deal moving while you wait for it.

Where the date cannot be reached, Section 1045 offers a different route. Sell stock held more than six months, reinvest the proceeds in other qualifying small business stock within 60 days, and elect to defer the gain. Two things to understand about it: it defers rather than excludes, because the replacement stock's basis is reduced by the deferred gain; and 60 days is a genuinely short window in which to find another company that qualifies.

A Word About Multiplying the Exclusion

The per-issuer ceiling applies per taxpayer, and Section 1202 preserves qualified small business stock character when stock is transferred by gift, with the recipient tacking the donor's holding period.¹⁷ Those two facts together are the basis of a planning idea known as “stacking”: gifting stock to several non-grantor trusts, each a separate taxpayer with a ceiling of its own.

Here is the honest state of it. No statute, no regulation, no revenue ruling and no court decision addresses whether this works. There is no authority against it. There is also no authority for it. In May 2026 the Assistant Secretary of the Treasury for Tax Policy said publicly that Treasury does not like the technique, and signaled that guidance may follow.²⁰ Section 1202 already grants Treasury authority to write regulations preventing avoidance of the section's purposes¹⁸ — which means guidance, when it comes, would rest on firm ground and could reach structures already in place.

That is not a reason to dismiss the idea. It is a reason not to treat it as settled, and to have the conversation with a tax attorney who will describe what the downside looks like if the position does not hold rather than only what the upside is worth.

One thing that is not a multiplier, and is widely misunderstood. A married couple does not get two ceilings. The statute halves the dollar limit for a married individual filing separately¹⁵, which only makes sense if the couple shares one limit between them. Where each spouse holds qualified stock in a different company, each company carries its own ceiling — but that is the per-issuer rule at work, not a spousal one.

The Texas Advantage — and the State Tax Caveat

Section 1202 is a federal exclusion. States decide for themselves whether to follow it, and they do not all follow it.

Texas imposes no individual income tax at all — the prohibition sits in the state constitution — so a Texas resident's state bill on the gain is zero whether or not the exclusion applies.

California sits at the other end of the range, and it is worth being precise because the common belief is wrong. California allows no QSBS exclusion. The Franchise Tax Board's instruction is to report the entire gain. A partial state exclusion did exist once; it was held unconstitutional in 2012, and the legislature's response provided relief for 2008 through 2012 without extending the provision forward. There has been no California exclusion for tax years beginning on or after January 1, 2013. California does not honor the Section 1045 rollover either.

So on a qualifying gain the comparison is 0% in Texas against a top marginal rate of 13.3% in California — applied to the whole gain, not half of it.

What that comparison does not do is make itself true by moving. California taxes income it can source to California, and it decides who is still a California resident by its own standards rather than by yours.

For what changing residency actually requires, see our companion piece on moving to Texas and residency tax planning.

Where the Advisor Team Earns Its Fee

QSBS planning is not a standalone exercise. It requires coordination across at least three disciplines simultaneously, and the quality of that coordination determines whether the exclusion is preserved or forfeited.

The CPA verifies eligibility, documents the exclusion on Form 8949,¹² and ensures the corporation's records — original issuance documentation, gross asset history, and business activity records — are sufficient to withstand IRS scrutiny. QSBS returns are occasionally audited, and the burden of proof is on the taxpayer.

The M&A attorney structures the transaction as a stock sale, not an asset sale. Section 1202 applies only to gains from the sale of stock.⁶ In an asset deal — where the buyer purchases the company's individual assets rather than its shares — there is no QSBS exclusion, regardless of how long the founder has held their equity. Many buyers prefer asset deals for their own tax reasons. A founder's advisor team needs to understand the economics of each structure and negotiate accordingly.

The wealth advisor models the after-tax outcomes across deal structures, works through what the holding-period decision is worth under whichever regime applies, and coordinates with your attorney and CPA on any pre-sale estate planning. When the fee-only advisor, CPA, and attorney are working from the same set of assumptions in advance of the LOI, the outcome is materially better than when each discipline is engaged independently after the deal is already in motion.

A Note on Legislative Risk

When this article was first published, the risk worth naming was that Congress might change Section 1202. It did. The July 2025 law expanded the exclusion — a higher ceiling, a higher asset threshold, and partial credit before the five-year mark — which is the direction nobody plans around.

The lesson is not that the rules always improve. It is that they move, that this time they moved on a single date, and that which side of that date your stock falls on is now one of the most consequential facts about it. Qualification also turns entirely on history: entity type at issuance, original issuance to you, the asset ceiling tested at the time. None of it can be fixed afterward. Test it early, and test it with someone who will put the conclusion in writing.

QSBS Eligibility Checklist

Before assuming your shares qualify — or don't — work through this list with your CPA and attorney:

• ✓Have you confirmed which regime the stock falls into? Acquisition date determines every other figure on this list.
• ✓Was the company organized as a C-corporation at the time your shares were issued?⁶
• ✓If converted from an S-corp or LLC, does the holding period since conversion satisfy the regime that applies to your stock — more than five years for stock acquired on or before July 4, 2025, or three, four or five years for a 50%, 75% or 100% exclusion on stock acquired after?⁹
• ✓Were the company's gross assets below the ceiling at the time of your issuance — $50 million for stock issued on or before July 4, 2025, $75 million after?⁷
• ✓Is your business in a qualifying industry — not professional services, financial services, consulting, or hospitality?⁸
• ✓Did you acquire the shares at original issuance, not through a secondary purchase?⁶
• ✓Have you held the shares long enough for the regime that applies — more than five years for stock acquired on or before July 4, 2025, or three, four or five years for a 50%, 75% or 100% exclusion on stock acquired after?⁹
• ✓Is the planned transaction a stock sale, not an asset sale?⁶
• ✓Have you calculated the exclusion ceiling under both the dollar and 10x basis tests — $10 million or ten times basis for stock acquired on or before July 4, 2025, $15 million or ten times basis after?³
• ✓Has your CPA confirmed that your state conforms to Section 1202?¹¹
• ✓Have the corporation's records been reviewed to support an IRS audit if required?¹²

If any answer is uncertain, the time to resolve it is now — not after the letter of intent is signed.

Sources & References

1. Internal Revenue Code § 1202, Partial exclusion for gain from certain small business stock, 26 U.S.C. § 1202.
2. Small Business Jobs Act of 2010, Pub. L. 111-240, § 2011 (Sept. 27, 2010) (establishing the 100% exclusion for qualified small business stock acquired after the enactment date).
3. IRC § 1202(b)(1), (b)(4) (establishing the per-issuer ceiling as the greater of the applicable dollar limit or 10 times the taxpayer's aggregate adjusted basis in the stock disposed of during the taxable year; the dollar limit is $10,000,000 for stock acquired on or before July 4, 2025 and $15,000,000 for stock acquired after that date, the latter indexed for taxable years beginning after 2026).
4. Protecting Americans from Tax Hikes Act of 2015, Pub. L. 114-113, div. Q, tit. I, § 126(a), 129 Stat. 2242, 3054 (Dec. 18, 2015) (striking the scheduled expiration of the 100% exclusion under IRC § 1202(a)(4) for stock acquired after September 27, 2010).
5. IRC § 57(a)(7) (limiting the alternative minimum tax preference to stock acquired on or before September 27, 2010; gain excluded on stock acquired after that date is not a preference item).
6. IRC § 1202(c) (defining qualified small business stock, including the C-corporation requirement, original issuance requirement, and active business requirement).
7. IRC § 1202(d)(1) (establishing the aggregate gross assets ceiling, which must not have been exceeded at any time before the issuance or immediately after it; $50,000,000 for stock issued on or before July 4, 2025 and $75,000,000 for stock issued after that date, measured as cash plus the adjusted tax basis of other property).
8. IRC § 1202(e)(3) (listing excluded trades and businesses, including health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage, and hospitality).
9. IRC § 1202(a)(1), (a)(5) (establishing the holding period: more than five years for stock acquired on or before July 4, 2025, with no partial exclusion below that threshold; and 50%, 75% or 100% at three, four and five years respectively for stock acquired after that date).
10. IRC §§ 1(h) and 1411 (establishing the 20% long-term capital gains rate and 3.8% net investment income tax applicable to high-income taxpayers).
11. California Franchise Tax Board, Publication 1001, Supplemental Guidelines to California Adjustments (instructing a taxpayer claiming a federal § 1202 exclusion or § 1045 deferral to report the entire gain on the California return). California has provided no QSBS exclusion or deferral for taxable years beginning on or after January 1, 2013, following Cutler v. Franchise Tax Board (Cal. Ct. App. 2012) and FTB Notice 2012-03.
12. Internal Revenue Service, Instructions for Form 8949: Sales and Other Dispositions of Capital Assets, irs.gov/form8949.
13. H.R. 5376, 117th Cong. (2021) (Build Back Better Act, as passed by the House of Representatives on November 19, 2021; the provision limiting the § 1202 exclusion for high-income taxpayers was not enacted into law).
14. Pub. L. 119-21, § 70431 (July 4, 2025) (amending IRC § 1202 to add the tiered exclusion by holding period, raise the per-issuer dollar limit to $15,000,000, and raise the aggregate gross assets ceiling to $75,000,000).
15. IRC § 1202(b)(3) (applying the dollar limit to a married individual filing a separate return by substituting half the otherwise applicable amount).
16. IRC § 1045 (permitting deferral of gain on qualified small business stock held more than six months where the proceeds are reinvested in other qualifying stock within 60 days and an election is made).
17. IRC § 1202(h) (preserving qualified small business stock character on a transfer by gift and tacking the transferor's holding period).
18. IRC § 1202(k) (authorizing regulations to prevent avoidance of the purposes of the section).
19. Texas Constitution, art. VIII, § 24-a (prohibiting the legislature from imposing a tax on the net income of individuals).
20. Public remarks of Kenneth Kies, Assistant Secretary of the Treasury for Tax Policy, May 20, 2026, as reported in contemporaneous professional commentary (stating Treasury's disapproval of multiplying the § 1202 exclusion through multiple non-grantor trusts and signaling that guidance may follow). Remarks by a Treasury official are not legal authority and do not change the law.

This article describes federal tax rules that changed in July 2025 and that apply differently depending on facts specific to you and to the company whose stock you hold. It is educational and is not tax or legal advice. Qualification under Section 1202 turns on the company's history and cannot be established after the fact — confirm it with your CPA and your attorney before you rely on it.