• Jason Trueblood

How QSBS Can Make Investors Jump For Joy!

From the moment investors deploy capital into a specific market or company, their investment is already at risk. Government regulation, economic changes, or the company’s inability to grow and prosper can sink an investment, taking the capital with it.  With the associated risks of venture capital investing being what they are, it’s important to take advantage of the available tax benefits and perks to offset potential losses. One such perk is the Qualified Small Business status that if managed properly can pay off on profitable returns down the road.

In 1993 Congress drafted section 1202 of the IRS code with the intent to drive increased investment in small businesses.  Section 1202 has progressed through several iterations over the years but the core concept remains the same. This tax break was considered temporary until the signing of Protecting Americans from Tax Hikes Act (PATH) in law by then President Barack Obama in 2015 making QSBS tax breaks a permanent fixture in America's small business investment landscape.

A Qualified Small Business (QSB) is defined by the IRS as any active C-Corporation with assets valued at original cost not exceeding $50 million.  Qualified Small Business Stock (QSBS) is any stock acquired from the Qualified Small Business, such as common stock or Series Seed/A/B preferred stock.

In a nutshell, QSBS offers significant tax incentives for investors at the time of the sale of stock.  Depending on when the stock was purchased and how long it has been held, investors could be exempt from certain federal taxes for up to $10 Million or 10x the original investment. In other words, missing out on the benefits of QSBS could result in the loss of millions of dollars of value following a liquidity event.

To claim QSBS status the following requirements generally must be met.

  • The investor cannot be a corporation (however, the company must be a C-Corp.).

  • The investor cannot purchase the stock on a secondary market.  The qualified stock must have been purchased from the company during its original issuance.

  • The investor must have acquired stock through cash, property or by providing the company with a service.

  • The stock must be held for at least 5 years for investors to benefit from tax incentives (All is not lost if held for under five years, there are ways to avoid taxation, more on this below).

  • The company must be using at least 80% of its assets in one or more of its qualified trades or businesses.

According to the Internal Revenue Code (Section 1045), if an investor sells QSBS-qualifying stock before the minimum five year holding period, they can avoid capital gains taxes by rolling their gains into another QSBS investment within 60 days.  Simply take the money earned from the exit and purchase stock in another company that meets those QSBS requirements.

Knowing and appropriately claiming your investments as QSBS can be the difference of millions of dollars.  At Aumni, we help identify QSBS so our customers can retain as much capital as possible from profitable exits translating to a healthier firm and happier limited partner base.  If you are curious about your portfolio’s QSBS coverage, reach out to our team of experts who can assist during the process.

The information provided on this website does not, and is not intended to, constitute legal advice. All information, content, and materials available on this site are for general informational purposes only and may not constitute the most up-to-date legal or other information. Readers should contact their attorney to obtain advice with respect to any particular legal matter.

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