Update (July 2025)
The Senate’s QSBS tax proposal has officially been signed into law as part of the One Big Beautiful Bill Act, ushering in major changes to Section 1202. For a detailed breakdown of the final legislation—along with its implications and planning strategies for founders and investors—read our full breakdown here.
The Qualified Small Business Stock (QSBS) exemption has long been a powerful tool to attract investment to startups and small businesses. Since its introduction under Section 1202 of the U.S. Internal Revenue Code, the QSBS provision has incentivized risk-taking by offering significant tax benefits to investors willing to back early-stage companies. Now, the 2025 Senate QSBS Tax Proposal aims to modernize and expand this incentive, marking the largest overhaul to the rules in over a decade.
This article breaks down the Senate QSBS tax proposal, the potential impact of such changes, and why they matter to founders, investors, and the broader startup community.
The QSBS Exemption Explained
Before we explore the 2025 Senate QSBS tax proposal, here’s a quick refresher on how QSBS works.
Introduced through Section 1202 changes, the QSBS exemption allows investors to exclude a portion, or even all, of capital gains derived from selling stock in qualified small businesses. To be eligible
- The stock must be acquired directly from the company when issued.
- The investor must hold the stock for at least five years.
- The issuing company must meet certain requirements, such as an asset threshold of less than $50 million at the time of the stock issuance, and must not be an excluded business type.
Under current rules, qualified investors can exclude up to $10 million in gains (or 10x the original stock investment, whichever is larger) from federal taxes. This has made QSBS an attractive option for individuals looking to invest in high-potential startups.
Senate QSBS Tax Proposal 2025 The Key Changes
The Senate QSBS tax proposal introduces the most significant expansion to QSBS benefits in years. Here are the main highlights
1. Phased-In Gain Exclusion
The five-year “all-or-nothing” holding period for a 100% gain exclusion is being replaced by a phased-in approach
- 3 years of holding = 50% gain exclusion
- 4 years of holding = 75% gain exclusion
- 5 years of holding = 100% gain exclusion
This change provides flexibility for investors who may not make the full five-year holding period and who previously either had to bite the bullet and pay the tax, or do a 1045 Rollover. It also encourages liquidity in startup investments by offering partial benefits earlier.
2. Increased Caps and Thresholds
The proposed Section 1202 changes make QSBS more generous and accessible
- Gain exclusion cap Increased from $10 million to $15 million, with future adjustments tied to inflation.
- Company aggregate gross asset threshold Raised from $50 million to $75 million, also indexed for inflation.
* For those who are wondering what the aggregate gross asset test means and how this works, it’s basically the sum of cash plus adjusted tax basis of all other property (assets) owned by the corporation
This higher cap enables investors and founders to benefit more substantially from QSBS, while the increased asset threshold ensures a broader range of startups can qualify as eligible issuers.
3. Applicability to New QSBS Issuances Only
The proposed Section 1202 changes will apply only to new QSBS issued after the bill’s enactment date. Existing QSBS will continue to fall under the current rules and will be grandfathered in.
Why These Changes Matter
This QSBS expansion aims to address both economic realities and the needs of today’s startup ecosystem. Here’s why they’re crucial
• Encouraging Investment Early
The QSBS expansion’s phased-in exclusion eliminates the rigidity of the current five-year rule to make startup investments more attractive by providing earlier tax-favored returns.
• Reflecting Inflation and Growth
Adjusted caps and thresholds acknowledge inflation and the increasing asset size of startups as they scale, allowing larger companies to qualify for QSBS benefits.
• Boosting Liquidity
By reducing the holding period for partial exemptions, investors gain earlier access to capital, which could fuel higher deal flow within the startup ecosystem.
The Impact on Founders and Investors
The proposed Section 1202 changes could reshape how founders and investors structure deals. From timing stock issuances to harnessing strategies like QSBS stacking, opportunities abound.
QSBS Stacking Strategies
For founders, this QSBS expansion could extend the benefits of QSBS stacking, which involves gifting shares to family members or certain types of trusts, such as non-grantor trusts. Each taxpayer or trust can claim its own per-issuer lifetime exclusion, significantly increasing the amount of gain shielded from tax
- Current law allows up to $10 million per taxpayer.
- Proposed law raises this to $15 million per taxpayer, indexed for inflation.
Example under proposed rules
- A founder with $45 million of QSBS held for five years gifts $30 million of shares into two trusts ($15 million each) and keeps $15 million in his or her name.
- The founder claims a $15 million exemption.
- Each of the two trusts claims a $15 million exemption.
- Result? All $45 million is excluded from federal capital gains taxes, as opposed to just $15 million under a single taxpayer scenario.
Expanded Eligibility for Growth-Stage Startups
Raising the asset threshold to $75 million also opens QSBS eligibility to larger, later-stage startups, strengthening their ability to attract investment and reward investors and employees who invested or acquired shares later in the company’s lifecycle.
Where Things Stand Now
While the Senate QSBS tax proposal signals a positive shift for the startup ecosystem, the broader tax bill remains a work in progress. Here’s where things stand
• Senate Support & Timeline
Proposals like the QSBS expansion have strong backing from innovation advocates. Lawmakers aim to pass the final bill by a self-imposed deadline (Senate) of July 4th, 2025.
• Negotiation with the House
The House version of the tax bill did not propose major changes to QSBS but only time will tell. As with any draft legislation, these Section 1202 changes might be modified or removed as the bill progresses through Congress.
What Founders and Investors Should Do Next
Stay Updated
Pay close attention to updates on the Senate QSBS tax proposal and any implications for QSBS-eligible stock issued before vs. after the new law. We will post an update to this article when we have more information.
Plan Your Strategy
Plan ahead. Whether the QSBS section of this bill passes or not, there are still many strategies for tax minimization and advanced tax and estate planning that can be used at different stages of a company’s lifecycle. Don’t wait until there is an LOI on the table.
Leverage Professional Expertise
Navigating new regulations can be complex. Work closely with professional advisors who understand the nuances of QSBS and startup tax benefits.
Significant Section 1202 changes are on the horizon for QSBS. If passed, QSBS expansion could unlock enormous potential for founders and investors, making America’s innovation economy more competitive than ever. Are you ready to take advantage of these new opportunities? Now’s the time to start planning.
FAQs
What is the new QSBS tax proposal in the 2025 Senate bill?
The 2025 Senate tax proposal introduces a tiered QSBS exclusion, with 50% after 3 years, 75% after 4 years, and 100% after 5 years, providing founders with earlier access to tax benefits. It raises the per-taxpayer tax exclusion from $10 million to $15 million, indexed for inflation, and increases the company eligibility limit (Gross Asset Test) from $50 million to $75 million. These enhancements apply only to QSBS acquired after, and if, the bill becomes law.
When would the new QSBS tax rules go into effect?
These Section 1202 changes apply only to QSBS stock acquired after the law’s effective date, if the proposal is passed—likely following enactment later this summer—so, as the proposal currently stands, existing holdings will not retroactively benefit.
Can C corporations still qualify for QSBS under the new rules?
Yes, eligible C corporations can still qualify. The Senate QSBS tax proposal raises the maximum gross-asset test from $50M to $75M, enabling more and larger companies to issue QSBS-eligible stock stock.
How should founders and investors prepare for QSBS tax changes?
Founders and investors should take steps to understand the upcoming changes to QSBS tax rules and their potential impact on business decisions. It’s important to assess how the new tiered schedule might affect exits, tender offers, and secondary sales. Additionally, consider the implications for new funding rounds, as some funding rounds that previously would not qualify for QSBS may now be eligible under the updated rules.
How does the Senate QSBS tax proposal affect startup founders and angel investors?
The Senate QSBS tax proposal could have a significantly positive impact on startup founders and angel investors. Key updates include increasing the lifetime QSBS exclusion from $10 million to $15 million per taxpayer (adjusted for inflation), earlier access to tax benefits starting in year 3, and raising the company eligibility threshold (gross asset test) from $50 million to $75 million. These changes would allow founders and investors to access greater tax benefits earlier, with more flexibility. Additionally, larger or later-stage companies would now be able to issue QSBS, significantly expanding the potential tax advantages for founders and investors.
