Introduction: What is QSBS?
The One Big Beautiful Bill Act (OBBBA) signed into law by President Trump on July 4, 2025, includes enhancements to Internal Revenue Code Section 1202, Qualified Small Business Stock (QSBS). QSBS is a powerful capital gains tax exclusion mechanism for stockholders of entities taxed as C-corporations provided other conditions are met. We encourage business owners looking to transition their ownership interest in the next three-plus years to engage in pre-sale tax planning to take advantage of these enhancements to QSBS. This article provides a broad overview. Reach out to Chinook (Oliver, Ed or John) for a specific plan based on your situation.
Historical Context of QSBS
QSBS originated in 1993 with a 50% capital gains tax exclusion. In 2009, the American Recovery and Reinvestment Act increased the exclusion from 50% to 75% for qualifying stock issued between February 18, 2009, and September 27, 2010. On that later date, the Small Business Jobs Act introduced a temporary 100% exclusion. The 100% exclusion was made permanent by the PATH Act in 2015.
The OBBBA introduced three major improvements:
- A tiered system for new QSBS holders, allowing a 50% gain exclusion after 3 years, 75% after 4 years, and a full 100% exclusion after 5 years.
- The maximum gain exclusion is raised from $10 million to $15 million (indexed for inflation) or 10 times the holder’s basis in the QSBS, whichever is greater.
- The gross asset test threshold for companies to issue QSBS rises from $50 million to $75 million, expanding access to more businesses and investors.
These changes apply to QSBS issued after July 4, 2025, the effective date of the new legislation. The requirement that the stock must be originally issued by a C corporation remains unchanged as does the definition of what constitutes a qualifying trade or business.
How To Qualify For QSBS
Although the policy behind the OBBBA’s revisions to QSBS is to promote investment in domestic small businesses, longstanding owners of companies that are structured as pass-through entities can take advantage of QSBS with careful tax planning at least three years before an M&A transaction.
The restructuring process for a pass-through entity, either LLC or S corporation, to qualify for QSBS involves a Type F reorganization and Section 351 exchange.1 The steps are outlined below:
- Formation of a new S corporation holding company (Holdco)
- Conversion of the original S corporation to a single-member LLC subsidiary (Qsub) of Holdco
- Creation of a newly organized C corporation (Newco)
- Holdco contributes the single-member LLC interest to Newco and Newco issues stock that will qualify as QSBS.
Points To Consider
Built In Gains
QSBS does not allow for a gain exclusion on any appreciation in the business assets/goodwill that occurred prior to the restructuring outlined above. The appreciation in the value of an LLC’s assets or the stock of an S corporation before the restructuring is considered “built in gain” and not eligible for exclusion under QSBS. For purposes of QSBS, the basis of qualified stock would be its fair market value at the time of restructuring.
Gifted Ownership Interests
Second and third generation family businesses often include ownership interests transferred via gift. For example, if QSBS qualified stock in a C corporation is transferred via gift from one generation to the next, the recipient’ s stock is treated as having been acquired in the same manner as the gift doner. Stock issued before August 10, 1993, is ineligible for QSBS.
Washington State Capital Gains Tax
The Washington State Department of Revenue enforces a 7% capital gains tax on the first $1M of capital gains plus an additional 2.9% capital gains tax on the amount above $1M. Fortunately, capital gains that qualify for QSBS are not subject to Washington State capital gains.2
M&A Transaction Considerations
In most M&A transactions, sellers of a company structured as a corporation commonly prefer a stock sale because stock sales are generally less complex and the gain is subject to capital gains tax while buyers prefer an asset sale because of the “step up” in the tax basis of the acquired assets to their current market value. Sellers eligible for QSBS will want to ensure their deal is structured as a stock sale to maximize their net tax proceeds even if it includes a compromising purchase price adjustment.
QSBS Tax Savings Example
- In 2020, Owner A living in Washington State starts a qualified business structured as a corporation filing taxes as an S corporation and contributes $100K for 100 units of stock.
- On August 1, 2025, the corporation engages in an F-reorg to convert to C corporation status. On that date, the stock is valued at $5M (QSBS basis in the newly issued stock).
- On December 31, 2030, the business sells (stock sale) for $20M. In the sale, $15M of the gain is excludable under QSBS as the stock was held for more than five years.
- In this scenario, Owner A could save roughly $5M in taxes through the use of QSBS!
- For simplicity, this analysis assumes the business does not have any taxable income for tax years 2025-30.
| Scenario | Status Quo | QSBS Eligible |
| Total Enterprise Value | $20M | $20M |
| Relevant Tax Basis | $100K | $5M |
| Realized Gain | $19.9M | $4.9M |
| Federal Capital Gains Tax3 | $4.74M | $1.17M |
| Washington State Capital Gains Tax4 | $1.9M | $430K |
| Total Tax | $6.65M | $1.6M |
| Post Tax Proceeds | $13.25M | $18.3M |
Through the use of QSBS, Owner A is able to pay roughly $5M less in tax and walk away with substantially more liquidity.
3Assumes the realized capital gain is subject to a 20% capital gains tax rate and 3.8% net investment income tax rate.
4 Washington state capital gains tax rates – exclusion amount for single filer is $270,000. First $1M of capital gains is subject to a tax rate of 7%. 9.9% rate applies to capital gains over $1M.
Conclusion:
Business owners looking to sell 3+ years from now and curious to see if they could qualify for QSBS need to carefully consider their applicable tax rates, single vs. double taxation, annual taxable activity, and most importantly, what their business is worth today compared to what they aspire to sell it for in the future. As a reminder, it takes a team of professionals to sell a business and Chinook will work with you and your CPA, trust and estate planning attorney, and wealth advisor to evaluate QSBS. If you’re thinking about selling your business on this timeline and not currently taxed as a C corporation, we suggest to start with a Strategic Assessment to review your current valuation and transaction options. QSBS is now more appealing than ever.
Reach out to the Chinook Team – Oliver, Ed or John – for a confidential conversation.
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Disclaimer: Chinook does not provide tax, legal or accounting advice. This article has been published for educational purposes only.
