QSBS (Section 1202): The $10 Million Tax-Free Exit
Tax Tips / Startup Exit
QSBS (Section 1202): The $10 Million Tax-Free Exit
💡 Executive Summary
- Problem: You founded a startup or invested early. When you exit for $10M+, federal capital gains tax (23.8%) eats away ~$2.4M of your reward.
- Solution: Ensure your shares qualify as Qualified Small Business Stock (QSBS) under IRC Section 1202.
- Result: You can exclude 100% of the gain from federal taxes, up to $10M or 10x your basis (whichever is greater). It is the closest thing to a “Free Lunch.”
⚠️ THE C-CORP TRAP
QSBS only applies to Domestic C-Corporations. If you held your shares in an LLC or S-Corp at issuance, you generally disqualify yourself. This is the #1 reason why VC-backed startups are C-Corps. Also, the company’s gross assets must be under $50M at the time you acquired the stock.
QSBS only applies to Domestic C-Corporations. If you held your shares in an LLC or S-Corp at issuance, you generally disqualify yourself. This is the #1 reason why VC-backed startups are C-Corps. Also, the company’s gross assets must be under $50M at the time you acquired the stock.
For Founders and Angel Investors (Tier L1/L2), QSBS is non-negotiable. It rewards risk-taking in small businesses by eliminating the tax bill upon success. If you structure it right, a $10 million exit puts $10 million in your pocket.
🧐 Core Mechanic: “Stacking”
Is your exit bigger than $10M? You can “stack” exemptions.
• Gift shares to Irrevocable Trusts (e.g., for kids) before the sale.
• Each trust gets its own separate $10M exemption.
• Result: 3 Trusts + You = $40M Tax-Free.
Is your exit bigger than $10M? You can “stack” exemptions.
• Gift shares to Irrevocable Trusts (e.g., for kids) before the sale.
• Each trust gets its own separate $10M exemption.
• Result: 3 Trusts + You = $40M Tax-Free.
Performance Simulation
Net Proceeds from $10M Exit
Standard Stock (Non-QSBS)
~$7.6M Net (After Fed Tax)
QSBS (Section 1202)
$10.0M Net (100% Tax Free)*
Full Exit Value
The “Big 4” Requirements
| Requirement | Detail | Pitfall to Avoid |
|---|---|---|
| Entity Type | C-Corp Only | No LLCs / S-Corps |
| Asset Size | < $50M Gross Assets | Must be small at issuance |
| Holding Period | 5 Years Minimum | Don’t sell too early (Use Sec 1045 rollover if must) |
| Acquisition | Original Issuance | No secondary market buying |
“QSBS is the government’s way of apologizing for the risk you took. Don’t let a structuring error (like forming an LLC) reject that apology.”
🔗 Related BMT Playbooks (Internal)
🛡️ The Multiplier: Using IDGTs to stack QSBS limits ⚖️ The Alternative: CRT (If you missed the 5-year window) ✅ The Rollover: Section 1045 vs QOZ (Comparing deferrals)🏛️ Institutional Resources (External)
📜 Legal Text: IRC § 1202 (Partial Exclusion for Gain) 🏛️ IRS Notice: Guidance on QSBS Rules 📘 Industry Guide: SVB Guide to QSBS for Founders
BMT designs for tax reality, not theory.