The One Big Beautiful Bill Act (“OBBBA”), enacted on July 4, 2025, significantly expands the tax benefits available under Internal Revenue Code Section 1202, resulting in new opportunities for owners and investors in “qualified small business stock” (“QSBS”) to exclude gain on the sale of their stock.
Below is a summary of the existing requirements under Section 1202 (many of which remain unchanged by the OBBBA) and a detailed overview of the major changes under the OBBBA.
Pre‑OBBBA Framework and General Background
Section 1202 was originally enacted in 1993 to encourage investment in and the flow of capital to small businesses. Historically, taxpayers other than C corporations have been able to exclude 50-100% of gain from the sale or exchange of “qualified small business stock,” provided they held the stock for a 5-year holding period.
Originally, taxpayers could only exclude 50% of gain on the sale of QSBS. The benefits of this were dampened by the fact that non-excluded gain was subject a higher 28% tax rate and excluded gain was subject to the AMT. The exclusion percentage was raised to 75% for stock issued between February 17, 2009-September 28, 2010 and to 100% for stock issued after September 28, 2010. Section 1202 became even more attractive after the 2017 TCJA lowered the corporate tax rate from 35% to 21%.
- A “qualified small business” is defined as a domestic C corporation that meets an “aggregate gross asset” test. Prior to the OBBBA, the issuing corporation cannot have had more than $50 million in gross assets any time before or immediately after stock was issued to the taxpayer. For these purposes, “aggregate gross assets” means the sum of the corporation’s cash plus the adjusted basis of other property held by the corporation (however, the basis of contributed property is deemed to be its fair market value at the time of contribution).
- A “qualified small business” must use at least 80% of its assets in the active conduct of a “qualified trade or business,” which excludes various classes of trade or business, including (1) service‑oriented fields (e.g., law, accounting, healthcare, and financial services), (2) banking, insurance, financing, investing, and similar businesses, (3) farming, (4) mining, oil, and gas businesses and (5) hotel and restaurants. In addition, a “qualified small business” cannot have excess real estate holdings or excess investments in stock and securities.
- QSBS must have been “originally issued” by the corporation to the taxpayer in exchange for cash or services (e.g., not by purchase from an existing shareholder). Nevertheless, QSBS received by gift or in a tax-free reorganization can satisfy this original issue requirement. Where a taxpayer receives stock in a new corporation in a tax-free Section 351 contribution or Section 368(a) reorganization, the new stock continues to be QSBS in the hands of the original shareholder; however, if the corporation issuing the new stock does not meet the “aggregate gross asset” test at the time of the exchange, only pre-exchange appreciation is excludible upon the future disposition of the newly-acquired stock.
- Finally, prior to the OBBBA, a gain exclusion limit of $10 million applied with respect to a taxpayer’s gain on the disposition of QSBS from any single corporate issuer (alternatively, taxpayers could exclude gain up to ten times their basis in the stock).
OBBBA Changes
The OBBBA enacted several taxpayer-favorable changes to Section 1202. These changes generally apply to QSBS that is newly issued after July 4, 2025 (e.g., not received by gift or in a tax-free exchange).
Tiered Holding Period and Revised Gain Exclusion Percentages
The OBBBA implements a tiered holding‑period structure, in which taxpayers no longer need to hold QSBS for five years to benefit from Section 1202. Instead, gain exclusions increase with the length of the holding period (but unexcluded gain is subject to a higher 28% tax rate and 3.8% NIIT):
| Holding Period | Gain Exclusion Percentage | Effective Tax Rate (including NIIT) |
| ≥ 3 Years | 50% | 14% (15.9%) |
| ≥ 4 Years | 75% | 7% (7.95%) |
| ≥ 5 Years | 100% | 0% |
Importantly, if a taxpayer sells QSBS but does not meet the holding period requirements, Section 1045 allows a taxpayer who has held QSBS for at least 6 months to reinvest proceeds from the sale of QSBS into new QSBS. The holding period of the original QSBS “tacks on” to the holding period of the newly acquired QSBS which, when sold, can qualify under Section 1202.
Increased Gain Exclusion Limit
The OBBBA increases the per-issuer gain exclusion from $10 million to $15 million, now annually adjusted for inflation (the alternative ten times basis limitation remains the same). For QSBS issued prior to July 5, 2025 that is exchanged for new stock in a tax-free Section 351 contribution or Section 368(a) reorganization, the taxpayer is subject to the original $10 million limit when the new stock is sold.
If a taxpayer’s investment in a corporation’s QSBS will generate gain in excess of the gain exclusion limits, they can consider alternative strategies for maximizing the benefits of Section 1202. With careful advance planning, a taxpayer can gift QSBS to family members or family trusts and can potentially multiply the available exclusion amount.
Increased Aggregate Gross Asset Test Threshold
The OBBBA increases the “aggregate gross asset” test threshold from $50 million to $75 million, now annually adjusted for inflation.
Looking Forward
The OBBBA expands the benefits of Section 1202 by introducing shorter holding periods, increasing the “aggregate gross asset” test threshold to permit investment in larger businesses, and raising the gain exclusion limitations. As these changes take effect, tax professionals should expect more questions relating to QSBS eligibility, choice of entity, and the mechanics of converting to a C corporation from another entity type. Although OBBBA broadens the Section 1202 regime, the fundamental aspects of Section 1202 remain unchanged, and the statutory framework warrants careful attention to ensure that taxpayers obtain the full benefits of Section 1202 and avoid any foot faults that could jeopardize this valuable benefit.