• Skip to primary navigation
  • Skip to main content
  • Skip to primary sidebar
  • Skip to footer
  • Facebook
  • Instagram
  • LinkedIn
  • Twitter
  • YouTube
Big Ideas for Small Business logo

Barbara Weltman

Big Ideas for Small Business, Inc.

Whitepaper download

Subscribe and download our eBook, "150+ Tax Deductions for Small Business A to Z."

This field is hidden when viewing the form
Get the:

  • Home
  • About Us
  • Big Ideas For Your Business
    • Idea Of The Day ®
    • SMB Legal
    • SMB Taxes
    • SMB Financial
    • Small Business
    • Newsletter Archive
  • Services
  • Books
  • Blog
  • Multimedia
    • Videos
    • Radio Shows/Podcasts
  • Be a Guest Blogger

Tax Breaks for Investing in Small Corporations

August 26, 2021 / By Barbara Weltman

Tax Breaks for Investing in Small CorporationsDuring the government’s 2020 fiscal year (ending September 30, 2020), there were 1.8 million C corporations and more than 5 million S corporations. While we don’t know how many of them were small corporations, we can estimate that most fit this category because the SBA says that 99.9% of all businesses are “small.”

Win or lose, using a corporation for business start-ups may produce tax breaks for owners. Because of the specific conditions for each break, one or both may apply in a particular situation (i.e., you may use a break if you win or lose). But again, depending on the situation and the outcome of your investment, you may be eligible for one or the other.

If you win

If you invest (or invested after September 27, 2010) in a small corporation, you may be able to have tax-free gains when you ultimately dispose of your holdings. Yes, no tax on your gains, regardless of your income level or anything else. To do so, you must hold Sec. 1202 stock—referred to as qualified small business stock (QSSB)—for more than 5 years and meet some very stringent conditions:

  • The stock must be issued by a domestic C corporation. Stock in S corporations can’t qualify for the tax break. And it can’t be a foreign C corporation.
  • The business can’t be in certain industries, including performing services in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, or brokerage services; banking, insurance, financing, leasing, or investing; farming; mining; or operating a hotel, motel, or restaurant. What does this leave? Technology, manufacturing, retail, and wholesale businesses are permissible industries for Sec. 1202 stock.
  • The stock must be acquired directly from the corporation for cash, property, or as payment for services. The stock can be acquired by gift or inheritance. But it can’t be obtained by buying stock from someone who had acquired the stock in a permissible manner.
  • As of the date the stock was issued, the corporation must have total gross assets of $50 million or less. This asset limit applies prior to issuance and immediately after issuance of the stock.
  • The corporation can’t be a mere holding company; it must be engaged in a business within a permissible industry. At least 80% of the value of the corporation’s assets were used in the active conduct of one or more qualified businesses (i.e., those that are not in barred industries).

If all these conditions are met, then the gain that’s not taxable cannot be more than the greater of $10 million ($5 million for married persons filing separately), minus any gains excluded in prior years, or 10 times the shareholder’s basis in the stock. Lower limits applied to married persons filing separately.

There’s an added benefit to QSSB stock. Once the gain is 100% excludable from gross income, it’s also exempt from the 3.8% net investment income tax.

Can’t meet the 5-year holding period requirement? There’s an option to defer tax on the gain on QSSB stock held more than 6 months by rolling it over into other QSSB stock within 60 days of a sale.

If you lose

There’s a provision allowing for an ordinary loss with respect to Sec. 1244 stock (defined below) of up to $50,000 ($100,000 for joint filers even if only one spouse owns the stock). This break applies regardless of how long you’ve held the stock. Any loss in excess of the limit is treated as a capital loss, which is deductible to the extent of capital gains for the year, with an excess allowed to offset up to $3,000 of ordinary income. Any losses in excess of the ordinary income limit may be carried forward indefinitely.

To be Sec. 1244 stock, all of the following conditions must be met:

  • The corporation must be a domestic corporation (not a foreign corporation). It may be a C or S corporation.
  • It must be “small,” meaning the total amount of money and property received by the corporation for the stock may not exceed $1 million. If the corporation subsequently issues more stock and exceeds the $1 million limit, it may designate which shares qualify as Sec. 1244.
  • The stock must be issued in exchange for cash and/or property. It can’t be issued as compensation for services.
  • Only the owner to whom the stock is issued can use Sec. 1244 treatment. Stock acquired by a gift and an inheritance, or in any other way does not qualify (there are some exceptions for certain corporate reorganizations and stock dividends).
  • The stock may be common or preferred stock.
  • The corporation must meet a gross receipts test in the year the shareholder has the loss. During the 5 most recent years (or the life of the corporation if less), the corporation must have derived more than 50% of his gross receipts from sources other than royalties, rents, dividends, interest, annuities, and sales or exchanges of stocks or securities. However, there are no restrictions on the industries for which the stock may be used as there is in the case of QSSB stock.

The loss may be claimed on the sale of the stock or if it becomes worthless. You don’t have to attach anything special to the tax return, but be prepared to prove the validity of Sec. 1244 stock if the return is questioned by the IRS.

Final thoughts

There are several points to keep in mind:

  • These tax breaks don’t apply to interests in limited liability companies, partnerships, or sole proprietorships. If you’re thinking of starting a business and considering which type of entity to use, these tax breaks on factors to keep in mind. They certainly are not the only factors for entity selection, but they shouldn’t be ignored.
  • Pending legislation has not suggested that any changes be made to these tax breaks.
  • The rules are complicated, so work with your CPA or other tax adviser to see how they fit into your situation.

Tags business start-ups investing in small corporations small business tax breaks tax breaks for owners

Primary Sidebar

Categories

  • General Business (506)
  • Guest Blog (113)
  • Homepage (23)
  • Small Business (1,003)
  • SMB Financial (329)
  • SMB Legal (66)
  • SMB Taxes (326)

Barbara’s Recent Posts

  • Mid-Year Business Planning for 2025 July 1, 2025
  • 10 Ideas for Coping with Cash Flow Challenges June 26, 2025
  • 5 Insurance Traps to Avoid June 24, 2025
  • Creating a Feng Shui Office Layout for Your Business June 20, 2025
  • Scaling Your Business by Optimizing Social Media Marketing June 19, 2025
  • The Timeless Value of Business Cards in a Digital World June 18, 2025
  • What Does the Latest IRS Data Book Tell Us? June 17, 2025
  • Business Advice from Famous Dads June 12, 2025
  • How Important Is Higher Education for Small Business Owners June 11, 2025
  • Business Planning in a Period of Uncertainty June 10, 2025
  • 9 Smart Financial Decisions for Business Owners in Retirement June 6, 2025
  • Preview of Tax Changes this Year: Actions to Take Now June 5, 2025
Awarded Top 100 Small Business Blog medal (link will open in a new window or tab)
Marquis Who's Who 2023 Badge
Top Small Business Blogs (Link will open in a new window or tab.)
8 Financial blogs small business Owners Need to Read. Invoice home.  (link will open in a new window or tab)
Best Small Business Blog, Expertido.org
Top 50 Small Business Blogs 2018
Best Small Business Blogs
BizHumm Top 100 Business Blog Award to Barbara Weltman
FitsSmallBusiness.com: Award for Best Small Business Blog 2017 (link will open in a new window or tab)
FitsSmallBusiness.com: Award for Best Small Business Blog 2016 (link will open in a new window or tab)

Footer

Big Ideas for Small Business logo

Small business ideas, business tax news and small business consulting from Barbara Weltman to provide business owners with the information they need to succeed. Visit our small business blog, Idea of The Day®, small business books and articles on small business taxes, small business finance and small business legal advice.

Contact Us

[email protected]

(772) 492-9593

gacor maxwin situs slot thailand terpercaya situs slot gacor situs gacor akun pro thailand slot bandar togel terpercaya

Latest Tweets

bigideas4sb Big Ideas for Small Business® @bigideas4sb ·
June 30

Reasons to Get an Accountant for your Financial Endeavours https://bit.ly/40qUpb0 #smallbusiness #accounting #recordkeeping

Reply on Twitter 1939815068348153964 Retweet on Twitter 1939815068348153964 Like on Twitter 1939815068348153964 1 Twitter 1939815068348153964
bigideas4sb Big Ideas for Small Business® @bigideas4sb ·
June 30

Be Your Own Advocate: A Short Guide to Self-Promotion - HR Daily Advisor https://bit.ly/3InHe4n #workplace

Reply on Twitter 1939769261167182132 Retweet on Twitter 1939769261167182132 Like on Twitter 1939769261167182132 Twitter 1939769261167182132
bigideas4sb Big Ideas for Small Business® @bigideas4sb ·
June 30

Rethinking the Exit Interview https://bit.ly/44w4mFz #workplace #smallbusiness #hiring

Reply on Twitter 1939723647528194525 Retweet on Twitter 1939723647528194525 Like on Twitter 1939723647528194525 Twitter 1939723647528194525
Load More

Copyright © 2008–2025 Big Ideas for Small Business, Inc  |  Designed by Hudson Fusion

  • Privacy Policy
  • Sitemap