QSBS §1202 Family Stacking

Internal Revenue Code §1202 provides one of the largest preferences in the federal tax code: a 100% exclusion (post-2010 acquisitions) of capital gain on sale of qualified small business stock, up to the greater of $10,000,000 or 10× the taxpayer's adjusted basis in the stock, per issuer. The exclusion is per shareholder. When a founder uses multiple non-grantor trusts and gifts of stock to family members, the per-shareholder limit can be effectively multiplied — "stacking" the exclusion to $50M, $100M, or more. The One Big Beautiful Bill Act preserved §1202 and modernized it for the first time since 1993.

OBBBA §1202 enhancements (effective for stock issued after July 4, 2025)

• Tiered holding period. 50% exclusion at 3 years, 75% at 4 years, 100% at 5 years. Previously a binary 5-year cliff.
• Per-issuer cap raised: $15,000,000 or 10× basis, indexed for inflation after 2026.
• Gross asset cap raised: $75,000,000 of issuer aggregate gross assets at issuance (previously $50,000,000), indexed.
• All other requirements preserved: C corporation, active business, qualified trade or business, original issuance, etc.

The core requirements

For stock acquired after September 27, 2010 and held more than 5 years (now also tier-eligible per OBBBA), the §1202 100% exclusion applies if:

1. Original issuance. Stock acquired by the taxpayer at original issuance from a C corporation in exchange for money or other property (not stock) or as compensation for services. Secondary-market purchases do not qualify.
2. Domestic C corporation. Not an S corporation, partnership, LLC taxed as partnership, or foreign entity.
3. Gross asset test. Issuer's aggregate gross assets did not exceed $75,000,000 (post-OBBBA) at any time from August 10, 1993 through immediately after the issuance.
4. Active business requirement. At least 80% of the corporation's assets used in the active conduct of a qualified trade or business throughout the holding period.
5. Excluded businesses. Services in health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, banking, insurance, leasing, investing, farming, mineral extraction, hospitality.

Per-shareholder, per-issuer mechanics

The §1202(b) cap is the greater of (A) $15,000,000 (post-OBBBA) cumulative exclusion per issuer per taxpayer, or (B) 10× the taxpayer's aggregate adjusted basis in the issuer's stock disposed of during the year.

"Per shareholder" is computed at the taxpayer entity level. A non-grantor trust is a separate taxpayer for §1202 purposes. A spouse is a separate taxpayer if filing separately or if the stock is separately owned. Therefore:

• Founder + spouse + each of 4 children + each of 4 children's non-grantor trusts = 10 potential §1202 caps × $15M = $150M of potential exclusion on the same company.

Stacking strategy: pre-IPO gifts to non-grantor trusts

The stacking play is executed before the liquidity event:

1. Founder gifts shares to multiple separate non-grantor trusts for the benefit of children, grandchildren, or other family members.
2. Each trust takes the founder's basis under §1015 and tacks the founder's holding period under §1223(2).
3. Each trust independently qualifies for its own §1202 exclusion upon eventual sale, subject to the gross asset test and other requirements being met at the time of the founder's original acquisition.
4. Gifts use gift exemption. A $5M gift of pre-IPO stock to a trust uses $5M of the founder's $13.99M (2025) or $15M (2026+) lifetime exemption. With careful valuation discounts and a successful IPO, the eventual §1202-excluded gain often dwarfs the exemption used.

Worked example: $80M exit

Founder, single, owns 100% of QSBS-eligible company. Acquires stock at incorporation in 2020 for $100,000 basis. In 2025 (held 5 years), expects to sell for $80,000,000 (gain $79,900,000).

Without stacking: §1202(b) cap = greater of $15M or 10× basis ($1M) = $15M exclusion. Remaining gain: $64,900,000 taxed at 20% LTCG + 3.8% NIIT = approximately $15,400,000 federal. After §1202, federal tax saved: approximately $3.6M.

With stacking (executed 2023): Founder gifts $5,000,000 of stock to each of three non-grantor trusts for children. By 2025 sale: founder holds 81.25% of the company (~$65M), each trust holds 6.25% (~$5M each). At sale:

• Founder: $15M excluded; $50M gain taxed (~$11.9M tax).
• Each of three trusts: $5M gain, fully excluded under each trust's $15M cap (gain below cap).
• Combined federal tax saved versus no stacking: approximately $3.6M additional.

With four trusts plus a spouse trust and grandchild trusts, the exclusion can stack to $80M+, effectively zeroing out the federal tax on the entire $79.9M gain. (Caveat: state law varies. California taxes the gain at ordinary rates and does not conform to §1202.)

Common mistakes

• Grantor trusts do not stack. A grantor trust is treated as the grantor for §1202 purposes; gifts to a grantor trust do not generate a separate exclusion.
• Gifts too close to the sale. The IRS may invoke the assignment-of-income doctrine if shares are gifted shortly before a contractually committed sale. Bona fide gifts months or years before the deal are safer.
• Failing the 80% active-business test. A company that accumulates cash from a Series A round into Treasury bills can fail the 80% test if working capital exceeds 50% of assets for more than 2 years.
• Forgetting state nonconformity. California (Cal. Rev. & Tax §17131.4), Pennsylvania, and others do not allow §1202 exclusion. Domicile change before sale matters.
• Triggering AMT preference (pre-2010 acquisitions only). 50% and 75% exclusions are AMT preference items; 100% (post-2010) is not.
• Confusing §1202 with §1045 rollover. §1045 allows tax-free rollover into other QSBS within 60 days. Different requirements; useful if §1202 holding period not yet met.

Sources

• Internal Revenue Code §1202: law.cornell.edu/uscode/text/26/1202
• Internal Revenue Code §1045, rollover of QSBS: law.cornell.edu/uscode/text/26/1045
• One Big Beautiful Bill Act, Pub. L. 119-21, §70401 (QSBS modifications): congress.gov/bill/119th-congress/house-bill/1
• Joint Committee on Taxation, "Description of the Tax Provisions of P.L. 119-21," 2025: jct.gov
• Treasury Regulation §1.1202-2: ecfr.gov §1.1202-2

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