On July 1, 2025, the Senate passed its version of the “One Big Beautiful Bill Act” (the “OBBB”), which was subsequently passed by the United States House of Representatives on July 3, 2025, and signed into law by President Donald J. Trump on July 4, 2025. The OBBB extends many of the provisions introduced by the Tax Cuts and Jobs Act (“TCJA”), which was a law spearheaded by the Trump Administration in 2017.

One notable addition to the Senate version of the OBBB was the expansion of the Qualified Small Business Stock (“QSBS”) exclusion under section 1202.

Overview of Section 1202 and OBBB Changes

Section 1202 as originally enacted in 1993, offered a substantial tax advantage to non-corporate investors who realize capital gains from the sale of QSBS, by permitting such shareholders the opportunity to exclude all or a portion of the otherwise taxable gain on the disposition of the shares.1 The OBBB introduced three taxpayer-favorable changes to section 1202, which expand its scope and flexibility for QSBS issued after the enactment of the OBBB.

Tiered Holding Period

The OBBB introduces a new phased-in gain exclusion for QSBS held for shorter periods. Specifically, the section 1202 gain exclusion was modified to incorporate a tiered regime that excludes: (i) 50% of the gain realized on the disposition of QSBS held for at least three years, (ii) 75% of the gain realized on the disposition of QSBS held for at least four years, and (iii) 100% of the gain realized on the disposition of QSBS held for at least five years. This reduces the all-or-nothing risk of the prior five-year holding requirement. The tiered exclusion regime applies to QSBS issued after enactment of the OBBB and any gain excluded under the regime is not treated as preference item for alternative minimum tax purposes.

Increased Gain Exclusion Cap

The OBBB also increases the per issuer limitation on the income exclusion from $10 million to $15 million for QSBS originally issued after enactment. The $15 million per issuer cumulative limitation is also adjusted annually for inflation.2

Expanded Gross Asset Test

The OBBB also expands the scope of section 1202 by increasing the asset limitation on corporations considered to be qualified small businesses from $50 million to $75 million, with additional inflation adjustments in out years. As such, a corporation with less than $75 million of the aggregate of (i) cash, (ii) the fair market value of property contributed in the issuance (if any), and (iii) the tax basis in the corporation’s other assets at the time of the stock issuances will be considered a qualified small business.

Key Synergies with Other Provisions of the OBBB

The impact of the changes to the QSBS regime is amplified by other significant provisions within the OBBB. Most notably, the permanent restoration of 100% bonus depreciation and immediate expensing for research and development (“R&D”) costs. These provisions effectively allow companies to strategically manage their aggregate gross assets thereby preserving their ability to issue QSBS over a longer period.

Exit Strategies

The introduction of the tiered holding period represents a meaningful shift in strategic thinking around liquidity events. Under the pre-OBBB regime there was essentially a five-year cliff which created a significant “lock-in” effect by incentivizing investors to hold QSBS for the full five-year period to obtain the exclusion of the income from the sale of QSBS.

Under the OBBB, a potential liquidity event occurring earlier in the investment cycle allows the investor to obtain partial exclusion creating a more nuanced decision relating to potential exits.

Availability of QSBS in Later-Stage Financing Rounds

The expansion of the gross asset test threshold to $75 million significantly expands the companies that can issue QSBS thereby accommodating larger, later-stage financing rounds. This is particularly impactful in capital-intensive businesses in light of the other OBBB changes relating to 100% bonus depreciation and expensing of R&D costs.

Applicability

The OBBB’s amendments to section 1202 apply exclusively to QSBS issued after July 4, 2025. Any QSBS issued on or before July 4, 2025, remains subject to the pre-OBBB rules. This necessitates a tranche-by-tranche record-keeping requirement that is critical for both the issuer of QSBS and the holder of QSBS.

The legislation was also drafted to prevent taxpayers from being able to convert “old” QSBS into “new” QSBS in order to access the enhanced benefits.

Choice-of-Entity Analysis

The enhancements made to the QSBS regime by the OBBB are significant, and other changes in the OBBB require analysis when making decisions relating to choice-of-entity.

The OBBB creates a tension that must be analyzed by business owners at the point of formation. Specifically, the OBBB made the 20% Qualified Business Income (“QBI”) deduction under section 199A permanent for pass-through entities (i.e., S corporations and LLCs). As discussed above, the OBBB dramatically enhanced the benefits of operating as a C corporation to qualify for the section 1202 exclusion.

For businesses with high-growth potential and an ultimate exit strategy via sale or IPO, the enhanced QSBS benefits likely tip the scales in favor of the C Corporation structure. The permanent QBI deduction, while clearly valuable, is likely better suited for stable, profitable businesses that generate consistent annual income that is returned to investors rather than aiming for exponential growth in enterprise value.

Compliance, Documentation, and Reporting

Critically, to the extent a taxpayer excludes income from the sale of QSBS the burden of proof regarding the qualification for the exclusion rests with the holder (i.e., taxpayer) as opposed to the issuer (i.e., C corporation). While rigorous compliance and documentation has always been critical in connection with the QSBS regime, the OBBB’s creation of a more complex regime elevated its importance.

How can WilliamsMarston help?

WilliamsMarston tax professionals have significant experience dealing in tax issues under section 1202 and regularly assist investors and corporations in complying with the provision’s requirements throughout the business’s lifecycle.

Choice-of-Entity

At the outset of investment, we regularly help investors evaluate choice-of-entity decisions through a dynamic modeling process prior to any initial investment. This includes an assessment of whether an investment can qualify for the exclusion under section 1202 based on, for instance, the asset threshold limitations and the qualifying nature of the underlying business activities.

Attestation Letters / Tax Opinions

After investment, we are often engaged by clients to provide an annual or periodic assessment of their QSBS status. To take advantage of the numerous benefits under section 1202, shareholders are required to identify and obtain numerous facts about the business activity, assets, and organizational history of the corporation. The Internal Revenue Code even specifically acknowledges the factually intensive nature of the QSBS inquiry and provides a rule requiring the corporation to “agree to submit such reports…to shareholders as the Secretary may require to carry out the purposes of this section.”3 However, Treasury Regulations implementing the rule have never been promulgated by U.S. Department of Treasury or the Internal Revenue Service (“IRS”), and we are aware of no other rule or IRS pronouncement requiring the corporation to remit documentation or information to its shareholders to assess QSBS status. Therefore, disclosures to shareholders are voluntary in nature. Further, because the IRS has not formalized disclosures or procedures for sharing information, in practice, disclosures are provided in many different formats that oftentimes do not include all of the necessary information.

Through regular questionnaires, disclosures, and procedures, WilliamsMarston tax professionals help clients proactively ensure that their investors are provided with information necessary to certify that their investment continues to qualify as QSBS. At times, an ad hoc review of potential organizational actions is required to ensure such actions do not disqualify the investment as QSBS or have an alternative adverse effect. Our involvement can also include reactive “due diligence” aimed at confirming section 1202 QSBS status for corporations and investors previously unaware of the provision. And in some situations a tax opinion is rendered to provide formal legal assurance that QSBS status can be sustained at a certain level of confidence.

Valuation

WilliamsMarston valuation professionals serve a critical role in assessing whether certain QSBS requirements, including whether the gross-asset thresholds, are met at the time of issuance, and whether 80% of the value of the corporation’s assets are used in the active conduct of a qualifying trade or business (not discussed in detail in this article).

Exit Planning & Estate Planning

In certain instances, a holder of QSBS may desire to roll their investment into either the equity of a buyer or into another qualified small business corporation. WilliamsMarston tax professionals assist with tax planning considerations to preserve and maximize benefits from QSBS.
The QSBS regime lends itself to certain impactful planning strategies in the wealth transfer and estate planning areas. WilliamsMarston tax professionals are well versed in these strategies and regularly assist with their analysis and application.

Conclusion

The adjustments under the OBBB bring QSBS back into focus, as the enhancements make section 1202 exclusion viable for more taxpayers due to the increased scope of the provision, the shorter required hold period, and the increased per-issuer cumulative limitation.

WilliamsMarston is well positioned to assist issuers and investors navigate the inherently complex, but incredibly powerful QSBS regime.

1 A detailed discussion of the mechanics of section 1202 is beyond the scope of this article.
2 Note, however, that the applicable inflation-adjusted cap for a specific share of stock is fixed in its year of issuance. For example, if QSBS is issued in 2028 when the inflation-adjusted cap is $15.6 million, that $15.6 million will apply to that QSBS even if it is sold in 2033 when the cap has risen to $18.7 million.
3 Section 1202(d)(1)(C).