Are you looking to reduce your taxable income and maximize your tax savings? The Section 1202 Exclusion is a great way to do just that. This article will provide an overview of the requirements to qualify for the Section 1202 Exclusion, and how Creative Advising can help you make the most of this tax-saving opportunity.
The Section 1202 Exclusion is a provision of the Internal Revenue Code that allows taxpayers to exclude up to 100% of the gain from the sale of certain qualified small business stock (QSBS). This exclusion is a powerful tool for reducing taxable income, and can help you maximize your tax savings.
To qualify for the Section 1202 Exclusion, there are a few requirements that must be met. First, the stock must be issued after August 10, 1993, and must have been held for more than five years. Additionally, the stock must be issued by a domestic C corporation that meets certain size requirements. The company must also have used at least 80% of its assets in the active conduct of one or more qualified trades or businesses.
At Creative Advising, we have the expertise and experience to help you identify and meet the requirements for the Section 1202 Exclusion. We can help you understand the eligibility criteria, and assist you in taking full advantage of this tax-saving opportunity.
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Take advantage of the Section 1202 Exclusion and get the most out of your taxes with the help of Creative Advising. Contact us today to learn more about how we can help you qualify for the Section 1202 Exclusion.
Qualifying Property
Under Section 1202 of the IRS Code, qualifying property, or QSBS, refers to stock in a domestic C corporation that meets certain requirements. For the stock to qualify as QSBS, the corporation must have been initially organized after August 10, 1993 and actually be engaged in a qualified business at all times after the stock’s acquisition. Additionally, substantially all (at least 80%) of the assets owned and used by the corporation must be in a qualified business, and the corporation must not be in a relationship with another corporation that would violate the domestic independence requirements.
What are the requirements to qualify for Section 1202 Exclusion? To qualify for the incentive provided under Section 1202, the stock must have been acquired after August 10, 1993, and at all times after its acquisition, the corporation must have been a domestic C Corporation and must have actually been engaged in a qualified business. Furthermore, the corporation must have had substantially all (80%) of its assets owned and used in this qualified business, and there must not be a relationship between the corporation and another corporation that voided the domestic independence requirement.
Qualifying Periods
For an entrepreneur or small business owner to qualify for the Section 1202 Exclusion, it’s important to understand the qualifying periods.
The most common Section 1202 Exclusion is for qualified small business stock held for more than five years. This time period is measured from the date when the stock was purchased to the date of its sale. The IRS considers a taxable year to be one complete financial year in the calendar year for which the stock was issued. Additionally, the individual must be the original owner of the qualified stock and received it during the period beginning with issuance and ending with the date of sale, cessation of business, or other liquidation event.
In certain limited scenarios, it is possible to qualify for the Section 1202 Exclusion with stock held for less than five years if the stock was purchased after August 10, 1993. In such cases, the stock must be held for more than six months but less than five years. The gain on the sale of the stock will be eligible for the 50% exclusion for the period it has been held for more than six months.
To qualify for the Section 1202 Exclusion, the stock must be purchased from the issuing company, with qualified small business stock defined as stock that was acquired by the taxpayer at its original issue, directly, or through a subsidiary of the issuing corporation. The stock must also remain unmodified for the entire duration it was held by the taxpayer, and must have been acquired at its original issue meaning that the sale proceeds represent the first recognition of the taxpayer’s gain on the stock.
In addition, the stock must meet all of the requirements of Internal Revenue Code Section 1202. These include that the issuing corporation be a domestic C corporation with a principal place of business in the US, have a total gross assets of $50 million or less at the time of issue, and do not derive more than 50% of their total value from non-active business assets such as land, natural resources or minerals. Additionally, the issuing corporation must not be engaged in banking, insurance, financing, or certain types of investment services, and must be primarily engaged in trades or businesses that refer to holding and developing its assets in the production of goods or services.
Qualifying Gain
Qualifying gain for Section 1202 Exclusion is the gain from the sale or exchange of qualified small business stock. To qualify as a small business, the stock must be issued by a domestic C corporation after August 10, 1993 that meets the active business requirements and has aggregate gross assets of no more than $50 million before and after the issuance of the stock. Furthermore, the stock must be held for more than five years before being sold or exchanged.
Qualifying gain is also limited to the greater of ten times the taxpayer’s basis in the stock or $10 million less the gain excluded by the taxpayer in prior tax years. In other words, a taxpayer’s gain eligible for exclusion in any tax year is the lesser of the total qualifying gain or ($10 million less the aggregate gain excluded in prior years).
What are the requirements to qualify for Section 1202 Exclusion? To qualify for Section 1202 exclusion, the corporation which issued the stock must meet the active business requirements, have aggregate gross assets of no more than $50 million before and after the issuance of the stock, and the stock must be held for more than five years before being sold or exchanged. Furthermore, the taxpayer’s qualifying gain is limited to the greater of ten times the taxpayer’s basis in the stock or $10 million less the gain excluded by the taxpayer in prior tax years.
Limitations on Qualifying Gain
For Section 1202 Exclusion, there are certain limitations to the gain that qualifies be excluded from taxation. Generally, these limitations are based on how the asset was used and the type of asset owned. The gain that qualifies for the Section 1202 Exclusion must fall within the meaning of Qualified Small Business Stock (QSBS). The Qualified Small Business Stock (QSBS) must meet certain requirements specified by law in order for the gain to qualify exclusion from taxation. In particular, the Qualified Small Business Stock (QSBS) must have been purchased at original issue, must have been held by the taxpayer for more than five years, and must have been acquired at a ‘qualified price’. Any stock purchased via 10% or more of the total value of the issuer’s securities, or purchased from an issuer that is related to the taxpayer in a certain way is not eligible for the exclusion.
Additionally, stock that is held by family members of the taxpayer, or from S corporations does not qualify for this exclusion. Furthermore, the gain from the Qualified Small Business Stock (QSBS) must meet certain thresholds in order to qualify. The thresholds for the SECTION 1202 Exclusion are as follows: 50% of the total gain must have come from assets used in an active trade or business, and the issuer must have had more than 80% qualifying use assets (as defined by section 1202) all during the past 5 years of its holding period. The value of the qualifying use assets cannot be greater than $50 million on the date on which the Qualified Small Business Stock (QSBS) is acquired.
To qualify for Section 1202 Exclusion, the taxpayer must meet several requirements. First, the Qualified Small Business Stock (QSBS) must be acquired at original issue, held by the taxpayer for more than five years, and must have been acquired at a ‘qualified price’. Second, the gain from the Qualified Small Business Stock (QSBS) must meet certain thresholds, including that 50% of the total gain must have come from assets used in an active trade or business, and the issuer must have had more than 80% qualifying use assets all during the past 5 years of its holding period. Third, the value of the qualifying use assets cannot be greater than $50 million on the date on which the Qualified Small Business Stock (QSBS) is acquired.
Tax Treatment of Qualifying Gain
The tax treatment of qualifying gain depends largely on Section 1202 of the Internal Revenue Code and the Small Business Stock Acquisition Exclusion. Qualifying gain for Section 1202 Exclusion is the amount of gain when selling stock in a qualified small business that is held for 5 years or longer, and up to $10 million in qualifying gain can be excluded from an individual’s income tax return.
Not all small businesses can qualify for Section 1202 Exclusion. Qualifying gain must be due to certain stocks in what is referred to as a C-corporation. Additionally, the company must have used over 80% of its assets for active business located in the United States during the 5-year period prior to the sale, and the company must have had “gross assets” of $50 million or less at all times during that 5-year period.
The sale must be to unrelated persons, and there are also limitations on the amount of capital gains income that an individual can exclude in a single tax year. With proper planning, utilizing the Section 1202 Exclusion strategy can help an individual to reduce the amount of taxes they must pay on the sale of qualifying small business stock. It is important to speak to a knowledgeable CPA or tax advisor in order to properly plan in order to maximize the benefits of the exclusion.
“The information provided in this article should not be considered as professional tax advice. It is intended for informational purposes only and should not be relied upon as a substitute for consulting with a qualified tax professional or conducting thorough research on the latest tax laws and regulations applicable to your specific circumstances.
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