Qualified Small Business Stock - Capturing the Tax Exclusion Most Owners Miss

A business owner sells her company for $15 million and pays zero federal capital gains tax on $10 million of that profit. Another owner with an identical sale writes a check for $2.38 million to the IRS. The difference isn’t luck or aggressive accounting. It’s whether they understood Section 1202 of the Internal Revenue Code five years before their exit, and whether they maintained continuous qualification throughout their holding period.

Executive Summary

The Qualified Small Business Stock (QSBS) exclusion under Section 1202 represents one of the most valuable tax planning opportunities available to eligible business owners, potentially eliminating federal capital gains tax on up to $10 million in gain (or ten times the shareholder’s basis, if greater) per shareholder. For a business owner selling $10 million in qualified stock, this could translate to federal tax savings of approximately $2.38 million, calculated at the current 20% long-term capital gains rate (per IRC Section 1(h)) plus the 3.8% net investment income tax that applies to high-income taxpayers under IRC Section 1411. These savings assume successful qualification throughout the entire holding period and may not apply to individual tax situations.

Tax practitioners we work with consistently identify QSBS as one of the most underutilized planning areas for private company owners. The requirements are technical and unforgiving: the stock must be acquired at original issuance, held for more than five years, issued by a C corporation meeting specific asset tests, and used in an active qualified trade or business throughout the holding period. The five-year holding period is necessary but not sufficient. Failing any requirement can eliminate the exclusion entirely.

This article provides a framework for understanding QSBS eligibility, identifying the common traps that destroy qualification, and implementing documentation strategies that preserve this benefit. We also examine the realistic costs, risks, and alternatives that business owners must weigh before pursuing QSBS planning. For owners of potentially qualifying businesses planning exits in the 2-7 year timeframe, QSBS analysis should begin immediately. Thorough evaluation must precede any irreversible decisions.

Introduction

We encounter business owners regularly who have never heard of QSBS. When we explain that Section 1202 could potentially eliminate federal capital gains tax on millions in exit proceeds, the reaction is predictable: disbelief, followed by urgent questions about qualification. Too often, the final emotion is regret. They converted from a C corporation years ago, or took venture funding structured incorrectly, or simply waited too long to start the five-year holding clock.

The QSBS exclusion isn’t a loophole or aggressive tax position. Congress created this incentive as part of the Revenue Reconciliation Act of 1993, with subsequent changes in 2009 and 2010. The legislative history indicates Congress intended to encourage equity investment in small businesses by reducing the tax burden on long-term investors. When properly structured and documented, the exclusion withstands audit scrutiny and delivers exactly what it promises: substantial or complete elimination of federal capital gains tax on qualifying stock sales.

The challenge lies entirely in the details. Section 1202 contains numerous technical requirements, and IRS guidance interpreting these requirements creates additional complexity. Requirements must be satisfied not just at the moment of sale, but continuously throughout the entire holding period. A disqualifying event in year two can destroy eligibility even if the business otherwise qualifies at the time of sale years later.

We must be equally clear about what QSBS planning requires: realistic cost-benefit analysis, continuous compliance monitoring, and honest assessment of whether the potential benefits justify the certain costs. Not every business qualifies, conversion to qualifying status involves real complexity and expense, and the probability that planned benefits won’t materialize as expected is meaningful, perhaps 40-50% when accounting for technical disqualification risks, business failure, and potential legislative changes.

Understanding the QSBS Exclusion Framework

The magnitude of potential QSBS tax savings justifies significant planning effort, but only after rigorous cost-benefit analysis. Under current law (IRC Section 1202), shareholders can exclude from federal income tax the greater of $10 million in gain or ten times their adjusted basis in the qualified small business stock. For stock acquired after September 27, 2010, the exclusion is 100%, meaning eligible shareholders pay zero federal capital gains tax on qualifying gains.

Consider a founder who invested $100,000 to start a company and later sells for $12 million. Without QSBS, the $11.9 million gain would generate federal capital gains tax of approximately $2.83 million, calculated as follows: $11.9 million × 20% (long-term capital gains rate for the highest bracket per IRC Section 1(h)(1)(D)) = $2.38 million, plus $11.9 million × 3.8% (net investment income tax per IRC Section 1411) = $452,200, for a combined federal tax burden of approximately $2.83 million. With QSBS qualification, the federal tax on $10 million of that gain could drop to zero.

Critical caveat: Individual tax situations vary significantly based on other income, deductions, state residency, alternative minimum tax implications, and actual sale structure. These calculations show general principles and should not substitute for personalized tax counsel. The gross savings figure does not account for the ongoing costs of maintaining C corporation status, professional fees, or the risk that qualification may fail.

The exclusion applies per shareholder, creating additional planning opportunities for family members and other investors. A married couple with properly structured ownership could potentially exclude $20 million in combined gains. Strategic gifting of QSBS stock to family members before sale can multiply the available exclusion across multiple taxpayers, though gift tax implications require careful analysis.

State Tax Treatment Requires Separate Analysis

State tax treatment varies significantly and can dramatically affect net benefits. Based on current state tax guidance (which business owners should verify with qualified counsel in relevant states):

States that generally conform to federal QSBS exclusion: These include states like Arizona, Colorado, Florida (no individual income tax), Nevada (no individual income tax), Texas (no individual income tax), and Washington (no individual income tax for most individuals).

States with partial conformity or modifications: Some states recognize the exclusion but with limitations on the amount or percentage excluded.

States that do not recognize the QSBS exclusion: California is the most significant non-conforming state, meaning California residents selling QSBS stock still face state capital gains tax at rates that can reach 13.3% for high-income taxpayers (per California Revenue and Taxation Code). New Jersey, Pennsylvania, and Mississippi also do not fully conform to the federal exclusion.

For a California resident selling $10 million in QSBS stock, the state tax liability could exceed $1.3 million even with federal exclusion, significantly reducing net benefits. State tax planning must accompany federal QSBS planning, and owners in non-conforming states should examine whether relocation before sale or other state-specific strategies might be appropriate, always in consultation with qualified tax counsel familiar with both states’ laws.

The Five Pillars of QSBS Qualification

QSBS eligibility rests on five requirements, each presenting unique challenges. The five-year holding period receives disproportionate attention, but it is necessary rather than sufficient. All five requirements must be satisfied continuously.

Pillar One: C Corporation Requirement

The stock must be issued by a domestic C corporation, not an S corporation, LLC, partnership, or other entity type. This requirement applies throughout the entire holding period, not just at issuance. A company that converts from C corporation to S corporation status, even temporarily, generally destroys QSBS eligibility for all previously issued stock. While specific transition rules may create limited exceptions in unusual circumstances, the general rule is severe and unforgiving.

This requirement creates a tension for many small business owners. S corporations and LLCs offer pass-through taxation that often reduces current tax burdens during the operating years. C corporations face double taxation: corporate-level tax on earnings at the current 21% federal rate (per IRC Section 11(b)) plus shareholder-level tax on dividends. Many owners converted away from C corporation status years ago to reduce ongoing taxes, unknowingly eliminating QSBS eligibility.

Pillar Two: Original Issuance Requirement

QSBS must be acquired at original issuance from the corporation in exchange for money, property (other than stock), or services. Stock purchased on the secondary market from another shareholder does not qualify, regardless of how the stock was originally issued.

This requirement has significant implications for ownership transitions. If a founder wants to bring in a partner by selling them some existing shares, those purchased shares won’t qualify for QSBS treatment in the new owner’s hands, even if the shares were QSBS in the founder’s hands. The new partner would need to acquire newly issued shares directly from the corporation to start their own QSBS clock.

One planning opportunity: stock issued in exchange for services qualifies as QSBS if other requirements are met. Key employees receiving equity compensation through original issuance (not stock purchases) can potentially qualify for QSBS treatment, making this an extraordinarily valuable benefit for early employees of qualifying companies.

Pillar Three: The Five-Year Holding Period

Shareholders must hold QSBS for more than five years to claim the full exclusion. Stock sold before the five-year anniversary doesn’t qualify, regardless of how perfectly the business meets all other requirements.

The five-year clock creates the most common QSBS planning failure: waiting too long to start it. An owner who plans a seven-year exit but waits until year three to convert to C corporation status and issue qualifying stock cannot meet the holding requirement. The stock issued in year three won’t satisfy the five-year test until year eight, after the planned exit has already occurred.

Section 1202 provides a partial solution for stock sold before five years through the “rollover” provision. Gain from QSBS sold after six months but before five years can be deferred by reinvesting in other QSBS within 60 days. This doesn’t eliminate tax, it merely defers recognition until the replacement QSBS is eventually sold. But it can preserve value when an unexpected early exit opportunity arises.

Pillar Four: Active Business Requirements

The corporation must use at least 80% of its assets (by value) in the active conduct of one or more qualified trades or businesses throughout “substantially all” of the taxpayer’s holding period. IRS guidance suggests “substantially all” generally means 80% or more of the holding period, though specific boundaries aren’t definitively established in all circumstances. This active business test contains two distinct elements: the nature of the business and the use of assets.

Certain business types are categorically excluded from QSBS eligibility regardless of how actively they’re conducted. These excluded categories per IRC Section 1202(e)(3) include:

• Professional services (health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage)
• Banking, insurance, financing, leasing, and investing
• Farming
• Hotels, motels, and restaurants
• Businesses involving natural resource extraction

The professional services exclusion eliminates QSBS eligibility for many closely-held businesses. A consulting firm, medical practice, law firm, or accounting practice cannot qualify regardless of corporate structure or planning efforts. Owners of these businesses must look to other tax planning strategies for exit optimization. Businesses in gray areas between excluded and qualifying categories require particularly careful analysis before incurring conversion costs.

For businesses not in excluded categories, the 80% asset test requires that the corporation actively deploy its assets in business operations rather than holding passive investments. A manufacturing company with $5 million in operating assets and $2 million in marketable securities portfolio would fail the test: the securities push passive assets above 20%. Cash and working capital held for reasonable business needs generally count as active business assets, but excess accumulated cash can jeopardize qualification.

Pillar Five: Gross Asset Limitations

At the time of stock issuance and immediately after, the corporation’s aggregate gross assets cannot exceed $50 million per IRC Section 1202(d)(1). This includes cash received in the issuance transaction itself, a trap that catches companies accepting large capital infusions.

The $50 million threshold has remained unchanged since Section 1202’s enactment in 1993. Unlike many tax thresholds, it is not indexed for inflation, meaning a threshold that might have captured “small” businesses thirty years ago now excludes many companies that Congress likely intended to benefit. Various legislative proposals have suggested increasing this limit, but as of this writing, no changes have been enacted. This legislative uncertainty cuts both ways: owners should also consider the risk that Congress could modify or eliminate QSBS benefits entirely before their planned exit.

The gross asset test uses fair market value, not book value. A company with $30 million in book assets but $60 million in fair market value fails the test. The timing is critical: the test applies at issuance, not at sale. Stock issued when the company had $40 million in assets qualifies, even if assets grow to $200 million by the time of sale.

The Reality of C Corporation Conversion

For owners currently operating as S corporations or LLCs, converting to C corporation status to capture QSBS benefits requires rigorous cost-benefit analysis. The conversion process involves complexity, costs, and risks that deserve honest assessment before any decision is made.

Direct Costs of Conversion

Legal and accounting fees: Entity conversion typically requires $15,000 to $75,000 or more in professional fees, depending on business complexity. This includes legal fees for restructuring documents, accounting fees for basis calculations and tax elections, and potentially valuation fees if contributing appreciated assets. These estimates are based on our firm’s observations and may vary significantly based on business complexity and geographic market.

Built-in gains tax: S corporations converting to C corporations face a five-year “recognition period” under IRC Section 1374 during which built-in gains may be subject to corporate-level tax upon sale. This can significantly reduce the net benefit of QSBS qualification and deserves careful modeling before conversion.

Ongoing compliance costs: C corporations face different compliance requirements, typically adding $5,000 to $15,000 annually in additional accounting and administrative costs compared to pass-through entities.

Indirect and Opportunity Costs Often Exceed Direct Costs

Double taxation during operating years: Until exit, C corporation earnings face potential double taxation. For businesses that distribute significant profits to owners (generally more than 30-40% of earnings annually over the 5+ year QSBS holding period) this ongoing cost can erode or eliminate QSBS savings.

Executive time: The conversion process typically requires 40-80 hours of owner and management attention, representing opportunity cost of $20,000 to $80,000 or more depending on the value of that time.

Implementation timeline: Entity conversion typically requires 6-12 months to complete, accounting for legal documentation, regulatory requirements, and tax election deadlines. State law requirements and third-party consents (from lenders, vendors, or major customers) may extend this timeline further.

Total Cost Reality

When accounting for direct costs, ongoing compliance, double taxation during the holding period, and opportunity costs, total economic costs of QSBS planning can range from $100,000 to $700,000 or more over the full planning horizon, significantly exceeding the $20,000 to $100,000 in direct professional fees that receive primary attention.

Uncertainty of benefit realization: QSBS benefits only materialize if the business is actually sold at a gain after the five-year holding period, all qualification requirements are satisfied continuously, and the law remains unchanged. Businesses that fail, are sold early, experience disqualifying events, or continue operating indefinitely may incur conversion costs without corresponding benefits.

We strongly recommend engaging qualified tax counsel and accounting professionals before any conversion decision. The analysis should model multiple scenarios, including sale at various valuations and timeframes, continued operation, and business failure, with probability-weighted expected values rather than focusing only on best-case outcomes.

Common Traps That Destroy QSBS Eligibility

Beyond the five core requirements, numerous technical traps can destroy QSBS eligibility, often without the business owner realizing it until years later when attempting to claim the exclusion.

The Redemption Trap

Significant stock redemptions by the corporation can disqualify previously issued QSBS. Section 1202(c)(3) contains anti-abuse rules preventing shareholders from obtaining cash through redemptions while still claiming QSBS treatment on remaining shares. If the corporation redeems stock from the taxpayer or related persons within specified windows around the issuance date, the newly issued stock may not qualify as QSBS.

The rules are complex and the prohibited periods extend both before and after issuance. Any contemplated stock redemption should be reviewed for QSBS implications before execution.

The S Corporation Conversion Trap

Converting from C corporation to S corporation status generally terminates QSBS eligibility for all shares, typically permanently. A company that was a C corporation from 2015-2020, converted to S corporation in 2021, and converted back to C corporation in 2022 likely cannot have any QSBS from the earlier period. The 2015-2020 shares lost eligibility upon S conversion, and the post-2022 shares would need their own fresh five-year holding period.

This trap catches business owners who switched to S corporation status for tax efficiency during operating years, planning to switch back before exit. The switch back doesn’t restore QSBS eligibility, it merely starts a new clock for newly issued shares.

The Asset Test Violation Trap

The 80% active business asset test must be satisfied throughout substantially all of the taxpayer’s holding period. A company that temporarily fails the test (perhaps by accumulating excess cash before a planned acquisition that falls through) may jeopardize QSBS eligibility for all shareholders even if the company subsequently returns to compliance.

Conservative planning maintains continuous compliance rather than relying on ambiguous safe harbors. When temporary non-compliance occurs, document the circumstances and duration carefully in case later defense is necessary.

The Working Capital Trap

Cash and cash equivalents count as active business assets only to the extent reasonably needed for working capital or held for specific business purposes. A profitable company that accumulates cash year after year without deploying it risks failing the active business asset test.

Planning around this trap requires either deploying excess cash in active business operations, distributing it to shareholders (which may trigger current tax but preserves QSBS eligibility), or documenting specific business purposes for cash accumulation with board resolutions and business plans.

Failure Mode Analysis: What Can Go Wrong

Understanding realistic failure probabilities helps business owners make informed decisions about QSBS planning.

Legislative Risk

Congress could modify or eliminate Section 1202 benefits before the owner’s planned exit. Tax benefits historically face modification during major tax reform efforts, and the substantial revenue cost of QSBS exclusions makes them a potential target. While we cannot precisely quantify this risk, legislative changes affecting long-term planning assumptions are not uncommon over five-year or longer horizons.

Mitigation: Monitor legislative developments, maintain flexibility for alternative strategies, and don’t assume current law will remain unchanged.

Inadvertent Disqualification

The technical complexity of QSBS requirements and the long compliance period create substantial risk of inadvertent disqualification through asset test violations, redemption trap triggers, business category drift, or other technical failures. Even well-advised companies can encounter unexpected disqualifying events.

Mitigation: Annual compliance monitoring, professional oversight, conservative interpretations of ambiguous requirements, and contemporaneous documentation.

Business Risk

Small businesses face meaningful probability of failure, distressed sale, or significant downturn before the five-year holding period completes. Industry data suggests 30% or more of small businesses experience significant adverse events over five-year periods.

Mitigation: Maintain adequate capital reserves, implement business risk management, and avoid over-reliance on QSBS benefits in overall financial planning.

Aggregate Failure Probability

When combining legislative, technical, and business risks, conservative estimates suggest 40-50% probability that planned QSBS benefits may not materialize as expected. This doesn’t mean planning is unwarranted, but it does mean cost-benefit analysis should use probability-weighted expected values rather than assuming success.

Comparative Analysis: QSBS Versus Alternatives

For owners considering QSBS planning, understanding alternative strategies helps determine the optimal approach for their specific situation.

Installment Sales

When superior to QSBS: Lower exit values where C corporation double taxation exceeds QSBS savings, businesses with high ongoing distribution needs, owners needing liquidity before five years, businesses in excluded categories.

When inferior to QSBS: Large exit values with qualifying businesses, growth companies reinvesting earnings, situations where full tax deferral isn’t sufficient.

Key tradeoff: Installment sales defer and spread recognition but don’t eliminate capital gains tax. QSBS can eliminate federal tax entirely but requires specific qualification and involves ongoing C corporation costs.

Employee Stock Ownership Plans (ESOPs)

When superior to QSBS: Owner wants to benefit employees, needs liquidity while staying involved, qualifies for Section 1042 rollover into qualified replacement property, business unsuitable for third-party sale.

When inferior to QSBS: Owner wants clean exit, business unsuitable for employee ownership, doesn’t meet ESOP qualification requirements.

Key tradeoff: ESOPs provide tax deferral through Section 1042 rollovers plus employee benefit, but involve ongoing complexity and fiduciary obligations. QSBS offers outright exclusion but only for qualifying sales to third parties.

Charitable Planning Strategies

When superior to QSBS: Owner has substantial charitable intent, very high income pushing into top brackets, wants to diversify concentrated holdings while benefiting charity.

When inferior to QSBS: No charitable intent, needs full sale proceeds for retirement, wants maximum personal wealth retention.

Key tradeoff: Charitable strategies (including charitable remainder trusts and donor-advised funds) eliminate capital gains on donated portions and generate charitable deductions, but reduce owner’s net proceeds. QSBS preserves full proceeds for the owner.

Remaining as Pass-Through Entity

When superior to QSBS: Short exit timeline (under 5 years), high ongoing distribution needs, business in excluded category, low exit values where conversion costs exceed benefits, uncertainty about exit timing.

When inferior to QSBS: Large anticipated exit gain, long planning horizon, growth business reinvesting rather than distributing, clearly qualifying business type.

Key tradeoff: Pass-through status provides ongoing tax efficiency but no special exit treatment. QSBS involves ongoing tax cost but potentially eliminates federal capital gains at exit.

QSBS planning should be compared against these alternatives with realistic cost modeling before any irreversible decisions.

When QSBS Planning Is Inappropriate

Honest assessment requires acknowledging situations where QSBS planning doesn’t make sense:

Excluded business categories: Professional services firms, financial services companies, and other excluded categories cannot qualify regardless of structure or planning efforts.

Short exit timelines: Owners planning to sell within 3-4 years cannot satisfy the five-year holding requirement for newly issued stock.

High distribution businesses: Companies distributing most of their earnings face C corporation double taxation that may exceed QSBS benefits.

Asset threshold exceeded: Companies with gross assets already exceeding $50 million cannot issue new qualifying stock.

Uncertain exit plans: Owners without clear exit intent may incur conversion costs without corresponding benefits.

Gray-area business types: Companies in borderline categories between excluded and qualifying should carefully assess classification risk before incurring conversion costs.

For these situations, alternative strategies deserve primary focus rather than attempting to force QSBS qualification.

Building a QSBS Documentation and Maintenance Framework

For businesses pursuing QSBS qualification, thorough documentation prepared contemporaneously (not reconstructed years later when preparing for exit) provides the strongest defense against IRS challenge.

Required Documentation Categories

Stock Issuance Records: Maintain complete records of every stock issuance including board resolutions, stock purchase agreements, and evidence of consideration paid. Document that each issuance was original issuance directly from the corporation.

Gross Asset Calculations: Prepare fair market value asset analyses at or near each stock issuance date. Even informal valuations documented contemporaneously carry more weight than sophisticated analyses prepared years later.

Active Business Test Compliance: Create annual analyses demonstrating that 80% or more of corporate assets were used in active qualified business operations. Document the business purpose for any significant cash accumulations or passive investments.

Entity Status Continuity: Maintain complete records confirming continuous C corporation status throughout the holding period.

Qualified Trade or Business Analysis: Document the nature of the corporation’s business activities and the basis for concluding that the business falls outside the excluded categories.

Annual QSBS Review Protocol

We recommend annual QSBS eligibility reviews covering:

1. Confirmation of continued C corporation status
2. Analysis of gross assets against the $50 million threshold for any new issuances
3. Review of asset composition for active business test compliance
4. Identification of any redemptions or stock transactions requiring analysis
5. Documentation updates for the corporate record

This annual discipline adds $5,000 to $15,000 in professional fees but can preserve eligibility by identifying issues while corrective action remains possible.

Case Studies

Understanding how QSBS qualification succeeds and fails helps show the planning stakes.

Successful Planning: A software company operated as a C corporation from founding, issued stock to founders at original issuance, maintained assets under the $50 million threshold at each issuance, kept 90%+ of assets in active business operations, and sold after seven years. All shareholders claimed full QSBS exclusion on gains up to the $10 million limit. Success required continuous compliance monitoring and annual documentation throughout the holding period.

The Late Conversion: A software company operated as an LLC from 2015-2022, converting to C corporation status in 2023 when the owners began exit planning for 2026. Despite meeting all other QSBS requirements, the stock issued in 2023 won’t satisfy the five-year holding requirement until 2028, two years after the planned exit. Total QSBS benefit: zero. Conversion costs were incurred without corresponding benefit.

The S Corporation Detour: A manufacturing company operated as a C corporation from founding through 2018, when the owner’s accountant recommended S corporation election for tax efficiency. In 2022, preparing for a potential sale, the owner learned about QSBS and converted back to C corporation status. The S corporation election destroyed QSBS eligibility for all pre-2018 stock, and the post-2022 stock won’t qualify until 2027.

The Excess Cash Problem: A services firm (in a non-excluded category) maintained $4 million in cash reserves against $6 million in operating assets, failing the 80% active business test. The owners didn’t realize the accumulated cash created a problem until engaging exit counsel, by which point they had failed the test for three of their five-year holding period, potentially disqualifying all shareholders.

These cases share common elements: failures occurred years before anyone understood their consequences, while successful outcomes required continuous attention to compliance requirements.

Actionable Takeaways

For owners of existing C corporations: Review your stock issuance history with qualified tax counsel. Shares issued more than five years ago may already qualify for QSBS treatment if other requirements are satisfied. Understanding your current status enables informed exit timing decisions.

For owners of S corporations or LLCs considering conversion: Engage qualified tax counsel to model the complete tax picture: conversion costs, built-in gains exposure, ongoing C corporation taxes, state tax implications, and potential QSBS savings at various exit scenarios with probability-weighted outcomes. Conversion may not be appropriate for businesses with substantial built-in gains, unclear business category qualification, or high ongoing distribution needs. If the conversion makes sense after rigorous analysis, execute it thoughtfully. The five-year clock matters, but rushed conversions often create problems. Implementation typically requires 6-12 months.

For owners of excluded businesses: Accept that QSBS isn’t available and focus tax planning efforts on alternative strategies: installment sales, opportunity zone investments, charitable planning, ESOP structures, and state tax optimization. These alternatives can provide meaningful tax reduction even without QSBS eligibility.

For all potentially qualifying owners: Engage qualified tax counsel experienced with Section 1202 to review your specific situation. The requirements are technical enough that self-assessment creates meaningful risk of overlooking disqualifying factors or documentation needs. Professional fees for QSBS analysis typically range from $5,000 to $25,000, modest relative to potential savings but only valuable if the analysis is thorough and honest about both opportunities and risks.

Conclusion

The QSBS exclusion represents a significant opportunity that rewards early planning and continuous compliance. Owners who understand Section 1202 requirements years before exit can structure their businesses, ownership, and operations to potentially capture tax savings exceeding anything available through other planning strategies. Owners who discover QSBS only when preparing to sell often find the planning window has already closed.

QSBS planning requires honest assessment of eligibility, costs, risks, and alternatives. Not every business qualifies, and conversion to qualifying status involves real complexity and expense that may or may not produce net benefits. The excluded business categories, the $50 million asset threshold, the five-year holding requirement, and the ongoing compliance obligations create hard constraints. When accounting for legislative risk, technical disqualification risk, and business risk, perhaps 40-50% of planned QSBS benefits may not materialize as expected.

We encourage every owner of a potentially qualifying business to obtain a professional QSBS eligibility assessment as part of exit planning. The analysis should honestly model multiple scenarios with probability-weighted outcomes, compare QSBS against alternatives, and provide clear guidance on whether the potential benefits justify the certain costs. The time to start that analysis is not when you’re ready to sell. It’s years before, when the decisions that determine eligibility are still within your control and when honest assessment can prevent costly mistakes.