1202 Stock: What Is It and How Can It Save Me Money?

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One previously obscure section of the Internal Revenue has gotten renewed interest in recent years and it could mean significantly lower taxes for you.

Policymakers have long sought to encourage investment in small businesses and one of the strongest incentives that Congress has enacted is Internal Revenue Code (IRC) Sec. 1202. This section allows non-corporate taxpayers who acquired Qualified Small Business Stock (QSBS) at original issuance and held it for at least 5 years to exclude up to 100% of the gain on the sale of such stock from their taxable income. This includes an exclusion from Alternative Minimum (AMT) and the 3.8% Medicare Surtax (i.e., net investment income tax.)

Section 1202 Qualifications

Typically, favorable tax sections of the Tax Code come with an extensive list of qualifications and Sec. 1202 is no exception.

The gain exclusion under Sec. 1202 only applies to QSBS. To qualify as QSBS a company must meet the following requirements.

• The holder of the stock must have acquired the stock at original issuance from the corporation after August 10, 1993, in exchange for money, property other than stock or as compensation for services.
• The stock must be held for at least five years.
• The issuing corporation must be a subchapter C corporation other than various enumerated special purpose corporations, such as IC-DISCs, RICs, REITs and cooperatives.
• The issuing corporation’s total gross assets cannot exceed $50 million at date of issuance;
• The issuing corporation must meet an “active business requirement” during substantially all of the shareholder’s holding period; and
• The issuing corporation must not have engaged in specified redemption transactions.

Amount of Gain Exclusion

For each corporation in which the taxpayer sells QSBS, the amount of gain eligible for exclusion is limited to the greater of:

• $10 million ($5 million in the case of married individuals filing separate returns), less the amount of gain excluded by the taxpayer in earlier tax years; or
• 10x the taxpayer’s adjusted basis of the QSBS.

How Can I Take Advantage of This Opportunity?

Bennett Thrasher’s Tax practice can help you navigate the complexities of this benefit and assist in qualification by completing a Section 1202 Analysis. To learn more about IRC Section 1202, and to see if you meet the requirements for this exemption, contact Richard Bartolanzo or Zach Geisler by emailing [email protected].

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