OBBBA and QSBS: How Does the One Big Beautiful Bill Affect Qualified Small Business Stock?

The One Big Beautiful Bill Act just made Qualified Small Business Stock (QSBS) even more attractive for business owners.

The passage of the One Big Beautiful Bill Act (OBBBA) has ushered in some of the most important tax code reforms in a generation, including significant expansions to the rules surrounding Qualified Small Business Stock (QSBS). While QSBS has long served as an opportunity to dramatically reduce or even eliminate the federal tax burden on capital gains, thanks to the OBBBA, these already substantial benefits are now even more accessible and generous. 

To properly utilize this specialized tax incentive and potentially save millions, it’s important to understand the fundamentals of how QSBS works and the specific ways this new legislation has changed the rules. 

What is Qualified Small Business Stock (QSBS)?

Defined under Section 1202 of the Internal Revenue Code, QSBS is a special class of stock that offers a significant tax exemption. If specific criteria are met, holders of QSBS can dramatically reduce or even entirely eliminate their federal capital gains tax upon sale. This tax incentive was designed to reward those who invest capital and talent into new and growing U.S. businesses, encouraging small business growth and job creation. 

However, not all companies can issue QSBS, and not every share of stock qualifies for QSBS treatment. To unlock these tax benefits, the corporation, the investor, and the stock itself must meet strict requirements. 

How to Qualify for QSBS

While a professional financial advisor can provide a definitive analysis of your company’s eligibility, a working knowledge of the core QSBS requirements is a strategic advantage for any founder or investor. 

For stock to be designated as QSBS, it must satisfy several key tests outlined in Section 1202: 

• • C-Corporation Status: Only domestic C-Corporations are eligible to issue QSBS. Businesses structured as LLCs or S-Corporations cannot issue qualified stock, though they can often convert to a C-Corp to become eligible.

• • Gross Assets Test: At the time the stock is issued, the corporation must fit the classification for a small business. This means its aggregate gross assets must not exceed a specific threshold (one recently changed by OBBBA) before and after the stock issuance.

• • Active Business Requirement: At least 80% of the corporation’s assets must be actively used in the day-to-day operations of one or more qualified trades or businesses. This rule prevents companies that primarily hold passive investments, like cash or real estate, from qualifying. 

• • Original Issuance Requirement: The shareholder must have acquired the stock directly from the corporation at its original issuance (or through an underwriter) in exchange for cash, property, or as compensation for services. Buying the stock from another shareholder on a secondary market disqualifies it from receiving QSBS benefits.

• • Minimum Holding Period: To receive the tax exclusion, the shareholder must hold the stock for a required minimum period of time. 

While these five criteria represent the framework for QSBS qualification, the One Big Beautiful Bill has introduced several specific modifications to the holding period, small business asset test, and maximum gain exclusion. 

How Does The One Big Beautiful Bill Change QSBS?

The One Big Beautiful Bill fundamentally alters the requirements and rules surrounding Qualified Small Business Stock. Effective for stock issued after the bill’s enactment date of July 4th, 2025, these significant expansions are detailed in Section 70431 of the act. 

QSBS Changes Summary: Section 70431, From the Senate Finance Committee 

The following is the official summary provided by the U.S. Senate Committee on Finance outlining the exact provisions that expand the QSBS gain exclusion: 

“Sec. 70431. Expansion of qualified small business stock gain exclusion. Current Law: Current law provides for the partial exclusion of gain on the sale of qualified small business stock (QSBS) held for more than five years. For stock acquired after September 27, 2010, the exclusion is 100 percent; for stock acquired in earlier periods, the exclusion is 50 percent or 75 percent, depending on the acquisition date. Gain excluded under Section 1202 is not treated as a preference item for alternative minimum tax (AMT) purposes for post-2010 acquisitions. The exclusion is subject to a per-issuer cap: generally, the greater of $10 million or 10 times the taxpayer’s basis in the stock. Eligibility also depends on the corporation’s aggregate gross assets not exceeding $50 million at the time of issuance. 

Provision: This provision modifies the QSBS gain exclusion by providing a tiered gain exclusion for QSBS acquired after the date of enactment. In particular, the provision allows a 50 percent exclusion after three years, 75 percent after four years and 100 percent after five years. Also, the proposal increases the per-issuer dollar cap to $15 million for post-enactment shares, indexed to inflation beginning in 2027. For stock issued after the applicable date, the corporate-level aggregate-asset ceiling is increased to $75 million, indexed to inflation beginning in 2027. The provision is generally effective for stock issued or acquired, and to taxable years commencing, on or after the date of enactment.”

QSBS Expansions Explained: What Exactly Changed? 

Although the legislative text can be dense, in simple terms, the One Big Beautiful Bill makes three major upgrades to QSBS for stock acquired on or after July 4th, 2025:

QSBS Change #1: More Flexible, Tiered Holding Period Requirements

Previous Rule: To receive any federal tax exclusion, you were required to hold your stock for a minimum of five years. Selling early meant you received 0% of the tax benefit. 

New Rule: The OBBBA introduces a tiered system that provides benefits sooner, reducing the risk of missing the five-year requirement. These tiers include:

• • Hold for 3+ years and exclude 50% of your capital gains

• • Hold for 4+ years and exclude 75% of your capital gains

• • Hold for 5+ years to receive the full 100% capital gains exclusion

QSBS Change #2: A Larger Gain Exclusion Cap

Previous Rule: The maximum gain you could exclude was capped at the greater of $10 million or 10 times your aggregate adjusted basis in the stock. 

New Rule: The per-issuer dollar cap is increased by 50%.

• • The exclusion is now capped at the greater of $15 million or 10 times your basis

• • The 10 times basis alternative remains unchanged. This is a massive advantage for founders who contribute substantial assets or have a high stock basis upon an LLC or S-Corp conversion 

• • Starting in 2027, this $15 million cap will be indexed to inflation, meaning the cap will be periodically adjusted upward to account for economic changes

QSBS Change #3: Broader Company Eligibility 

Previous Rule: To issue QSBS, a C-Corporation could not have more than $50 million in aggregate gross assets at the time of stock issuance. 

New Rule: The asset ceiling has been raised, allowing larger, more mature startups and small businesses to qualify:

• • The aggregate gross asset limit is increased to $75 million

• • This $75 million ceiling will also be indexed to inflation beginning in 2027 

Key Benefits of the New QSBS Rules

The fundamental purpose of QSBS has always been to reward the risks of entrepreneurship and early-stage investing with a large tax break. The changes introduced by the OBBBA amplify these existing advantages and introduce new layers of flexibility, making the incentive more valuable than ever. 

Here are the primary benefits of the new QSBS rules:

Easier Access to Reduced Tax Rates

The main benefit of QSBS remains the potential to pay a 0% federal tax rate on millions of dollars in capital gains. A full 100% exclusion under Section 1202 means the gains are also exempt from the 3.8% Net Investment Income Tax (NIIT) and are not considered a preference item for the Alternative Minimum Tax (AMT). 

How the OBBBA Improves This Benefit: The new tiered holding period materially de-risks the process of securing this benefit. Before the bill, an early exit of any length resulted in a complete forfeiture of the tax exclusion. Now, the tiered system provides a three-year 50% and four-year 75% exclusion, giving founders flexibility when handling unexpected acquisition offers or liquidity needs that would have previously nullified their entire tax advantage. 

A Higher Ceiling for Tax-Free Gains

While the QSBS exclusion has always been substantial, its new structure allows for an even greater opportunity for tax-free exits. 

How the OBBBA Improves This Benefit: The new rules directly increase the potential tax-free windfall. By raising the dollar cap from $10 million to $15 million, the OBBBA allows for an additional $5 million in tax-exempt gains per taxpayer, per company. The law preserves the original 10 times cost basis alternative, which can lead to an even greater exclusion for founders who convert from an S-Corp or LLC with a high company valuation. Because the new cap will be indexed to inflation, its value will not erode over time. 

Increased Attractiveness to Investors

A company’s ability to issue QSBS is an excellent way to bring in new investors, as it offers a better after-tax internal rate of return (IRR) compared to non-qualified investments. This makes an equity stake in the company inherently more valuable.

How the OBBBA Improves This Benefit: By increasing the company’s gross asset limit from $50 million to $75 million, the OBBBA widens the pool of eligible companies. This means that more mature, later-stage companies that may have previously been too large to qualify might now be able to issue QSBS, making the incentive relevant for Series B, C, or later funding rounds. 

Expanded Options for Tax and Exit Strategies

QSBS opens the door to more sophisticated tax planning strategies. For example, the per-taxpayer nature of the exclusion allows founders to gift shares to family members or transfer them to trusts, effectively multiplying the total available tax exemption. Additionally, IRC Section 1045 allows for tax-deferred rollovers if a sale occurs before the holding period is met. 

How the OBBBA Improves This Benefit:  The new tiered system introduces another layer to these strategies. For instance, a founder could now plan a partial exit, selling a portion of their stock after three years to secure liquidity and the 50% tax exclusion, while retaining the rest to qualify for the full 100% exclusion later. 

How a Financial Advisory Firm Can Simplify the QSBS Process

The rules governing Qualified Small Business Stock, especially after the expansions in the One Big Beautiful Bill Act, can be difficult to understand and implement correctly. While the potential for a 0% tax rate is a significant opportunity, a single mistake in qualification, documentation, or timing can result in a complete loss of this benefit, exposing you to a substantial and unexpected tax liability. A successful tax-free exit requires careful planning before the stock is even issued, not to mention years of diligent monitoring afterward. 

A professional financial advisor can manage the entire QSBS lifecycle by taking care of tasks like:

• • Validating Eligibility and Documentation: An advisory firm performs the necessary due diligence to confirm your company meets the stringent gross asset, C-Corporation, and active business requirements at the time of issuance. As part of this validation process, advisors will also create and maintain audit-proof documentation to defend your QSBS status against potential IRS scrutiny. 

• • Monitoring and Exit Planning: With the new tiered system, advisors need to monitor QSBS holding periods to identify when the 50%, 75%, and 100% exclusion levels are met. They then use the data to build an effective exit strategy, modeling various scenarios to both maximize tax-free gains and meet your personal financial goals.

• • Staying Up-to-date on Legislative Changes: Tax laws are always changing, and advisors stay current on legislative updates like OBBBA, as well as evolving IRS interpretations. They can then translate these external changes into actionable advice, allowing you to adapt your strategy to protect benefits and capitalize on new opportunities. 

By entrusting these details to an expert, founders can reduce the risk of accidental disqualification and unexpected tax liability while securing the full financial benefit that QSBS exclusion can offer. 

Takeaway

The One Big Beautiful Bill Act (OBBBA) has enhanced the Qualified Small Business Stock (QSBS) incentive under IRC Section 1202, making it significantly more generous and accessible for founders and investors. The new rules, which apply to any stock acquired after July 4th, 2025, include:

• • New Tiered Holding Period: A 50% federal tax exclusion on gains is now available after a three-year hold, which increases to 75% after four years and the full 100% after five years. 

• • Larger Gain Exclusion: The maximum gain eligible for exclusion has been increased to the greater of $15 million or 10 times the stockholder’s cost basis. 

• • Broader Company Eligibility: The gross asset limit for a company to qualify has been raised from $50 million to $75 million at the time of stock issuance.

• • Core Requirements Remain: The issuing company must still be a domestic C-Corporation that meets the “active business” test, and the stock must be acquired at original issuance. 

These expansions provide a valuable safety net for earlier exits and open the door to more sophisticated tax and exit planning strategies. However, the added layers of strategic complexity mean that proper documentation, monitoring, and oversight are more important than ever. A professional financial advisory firm can handle these and many other tasks, helping you to avoid the risk of accidental disqualification and secure the maximum possible QSBS benefits. 

To learn more about QSBS and see if your company is eligible under this new legislation, contact Embarc Advisors for more information. 

QSBS Expansion Frequently Asked Questions (FAQs) 

• • Do Founders Qualify for QSBS?

Yes, founders are one of the primary groups the QSBS incentive was designed to benefit. As long as their stock meets all the necessary criteria, including being issued by a qualified C-Corporation, acquired at original issuance, and satisfying holding period requirements, they are eligible for the partial or full tax exclusions. 

• • What is the 5-Year Rule for QSBS?

The “5-Year Rule” was the former standard for QSBS before the One Big Beautiful Bill was enacted. Previously, a stockholder had to hold their QSBS for a minimum of five years to receive the 100% tax exclusion; now, stock acquired on or after July 4th, 2025, is subject to a more flexible, tiered holding period. Under the new rules, a three-year hold now grants a 50% exclusion on capital gains, a four-year hold provides a 75% exclusion, and the original five-year hold still yields the full 100% exclusion. 

• • What is the $10 Million Limit for QSBS?

The “$10 million limit” refers to the former cap on how much a gain a QSBS stockholder could exclude per issuer. Under the old rules, this was the greater of $10 million or 10 times the stockholder’s basis in the stock. The OBBBA has increased this limit: for stock acquired after July 4th, 2025, the gain exclusion is now capped at the greater of $15 million or 10 times cost basis. 

Next Steps: Let’s Talk Strategy

The new QSBS law is in effect. The sooner you act, the more flexibility you’ll have to benefit.

Schedule a consultation to assess whether your stock qualifies under the new rules, and what steps to take now. Or reach out to us directly at info@embarcadvisors.com to start a conversation.