For most C-corp founders, Section 1202 is the single largest tax-planning lever they have. The clock and the eligibility tests are set years before any deal, yet I see QSBS forfeited at signing more often than I see it claimed.
What it’s worth
Section 1202 excludes federal capital gain on the sale of qualified small business stock, per taxpayer and per issuer.
For stock issued on or before July 4, 2025, the exclusion is the greater of $10 million or ten times your basis. For stock issued after that date, it’s the greater of $15 million or ten times basis, with the $15 million indexed for inflation starting in 2027. For a low-basis founder, that’s often $2 million or more of federal tax saved per qualifying shareholder.
The five gates
All five have to hold.
Entity: The company must be a domestic C-corp when the stock is issued and during substantially all of your holding period.
Size: Gross assets must be $50 million or less at all times before and immediately after the stock is issued under the legacy rules, or $75 million or less for stock issued after July 4, 2025.
Active business: The company must run an active qualified trade or business. Excluded categories include health, law, accounting, consulting, financial services and hospitality, so much of professional services is out.
Original issuance: You must have received the stock directly from the company. Shares bought from another holder don’t qualify.
Holding period: For legacy stock you need a five-year hold, and it’s all or nothing; there’s no partial benefit at four years. Stock issued after July 4, 2025 is tiered: 50% excluded at three years, 75% at four and 100% at five. The portion that isn’t excluded is taxed at 28%, not the usual long-term capital gains rate.
Selling before the clock runs
If a sale comes before your clock matures, Section 1045 can help. Stock held for more than six months can be sold and the proceeds reinvested in new QSBS within 60 days, and your original holding period carries over to the replacement stock. You can exit without losing the position entirely.
State tax
The federal exclusion doesn’t automatically carry to your state return. California, Pennsylvania, Alabama and Mississippi don’t follow Section 1202, so QSBS gain is fully taxable there. New Jersey was on that list until it adopted the exclusion for tax years beginning in 2026. Plan for the state where you’ll actually be resident when you sell.
How it gets lost
QSBS rarely disappears because of one bad decision. It disappears because nobody checked the gates until the deal was already structured: an asset sale instead of a stock sale; a closing a few months short of the holding period; or eligibility nobody confirmed until the buyer’s diligence. Check yours before the first buyer conversation, not after the LOI.
Ahmed Hasan is the founder and CEO of Venture Bridge Law, a corporate and M&A boutique. This article is general information, not legal advice.