Tax Planning Opportunities with QSBS – “Packing” & “Stacking”

Section 1202 – An Overview

In a previous post, we discussed the historical context, investor/corporate qualification requirements, and common investor issues faced by holders of Section 1202 stock, more popularly referred to as Qualified Small Business Stock (QSBS). IRC Section 1202 allows qualified investors to exclude from federal income tax the greater of: $10-15 million of realized capital gain, or 10 times the stockholder’s adjusted cost basis, upon the sale of QSBS in a calendar year, depending on the issuance date of the stock.

The requirements to qualify for the tax exclusion under Section 1202 are numerous. As a brief refresher, below are the key investor and corporate requirements (many have additional important considerations):

• Investor requirements
  
  • The holder must be an individual, trust, or pass-through entity (partnership/S-corp).ⁱ
  • The stock must be received at original issuance after 1993, not through the secondary market.ⁱⁱ
  • The holding period for the stock must be at least 5 years - if issued on or before July 4th, 2025.ⁱⁱⁱ
    
    • For stock issued after July 4th, a reduced holding period of 3 and 4 years qualifies the investor for a 50% and 75% gain exclusion, respectively. 
    • This was a permanent change made by the One Big Beautiful Bill Act (OBBBA) passed in 2025.^iv
• Corporate requirements
  
  • The ‘Qualified Small Business’ (QSB) must be a domestic C-corporation – for substantially all of the investor’s holding period.^v
  • Aggregate gross assets of the QSB cannot exceed $50M before or immediately after issuance – for stock issued on or before July 4th, 2025.^vi
    
    • An additional permanent change from OBBBA was to increase the gross asset threshold to $75 million for stock issued after July 4th, 2025.^vii
    • The $75 million threshold will further increase with inflation starting in 2027.
  • The QSB must meet active business requirements and be a “qualified trade or business” – again for substantially all of the investor’s holding period.
    
    • This is generally satisfied if at least 80% of QSB assets are used in the active conduct of a “qualified trade or business”.^vii

Important note – the OBBBA legislation, increased the per-issuer capital gain exclusion limit from $10 million to $15 million – applicable only to stock issued after July 4th, 2025. For simplicity and clarity, this whitepaper will hereafter only reference the historical $10 million/10x basis limit, but the tax planning opportunities are only amplified under the new rules.

$10 Million / 10x Basis Exclusion - A Closer Look

To better understand the tax planning opportunities available, it helps to review the precise wording of the ‘greater of $10 million/10x cost basis exclusion under Section 1202(b)(1):

• [The taxpayer’s eligible gain] shall not exceed the greater of:  
  
  • (A) - $10,000,000 reduced by the aggregate amount of eligible gain [realized in] prior taxable years and attributable to dispositions of stock issued by such corporation, or
  • (B) - 10 times the aggregate adjusted basis of qualified small business stock issued by such corporation and disposed of by the taxpayer during the taxable year.”

Subparagraph (A) of Section 1202(b)(1) says that once an investor has excluded a total of $10 million of gain – whether in a single year or across multiple years – he/she may not exclude any additional gain from that same issuer.

For this reason, Subparagraph (A) is often referred to as the “$10 million cap,” “lifetime limit,” or “per-issuer cap.” It reflects a one-time cumulative ceiling for each taxpayer with respect to each corporation. It tends to be most applicable when basis in QSBS is low and/or the investor’s total excludable gain is < $10 million.

• Example 1: John is the co-founder of an electric car company, started in 2019. The company is a success as a competitor to cars dependent on gasoline and goes public in 2024. After his six-month post IPO lock-up expires, John sells some of his founder shares with $10,000 cost basis in 2025. Because 10 times the cost basis of the shares sold is only $100,000, John is able to exclude only a maximum of $10 million of gain under Section 1202(b)(1)(A). If John sells more low basis shares from his company in 2026, he can no longer exclude more realized gain.

Turning to Subparagraph (B), the focus shifts from the amount of previously excluded gain to the cost basis of the QSBS sold in a given tax year. Under this rule, the taxpayer may exclude gain up to 10 times the aggregate adjusted basis of QSBS sold during that year. Because this calculation is made annually and is not reduced by exclusions taken in prior years, Subparagraph (B) is often referred to as an “annual limit.”

It’s important to distinguish these two rules: the $10 million exclusion under Subparagraph (A) is a lifetime cap per taxpayer, per issuer, while the 10× basis limit under Subparagraph (B) is calculated annually based on the basis of the QSBS sold that year. The two limitations are not stackable within a single year, but once/if the $10 million lifetime limit has been fully used, a taxpayer may still benefit from the 10× basis limit in future year(s), provided he/she sells QSBS with sufficient adjusted basis to support additional exclusions.

• Example 2: After selling founder shares with $10,000 cost basis in 2025, John decides to sell more shares the next year in 2026. He acquired these shares by exercising options in 2020 and paid $2 million of ordinary income tax upon exercise. John’s cost basis in the shares sold is $2 million, and he can exclude a total of $20 million of gain upon their sale in 2026 after holding them for five years ($2 million x 10 = $20 million).

Many successful founders, investors, and early employees seeking to take advantage of the Section 1202 gain exclusion will find their excluded gain maximized under the $10 million lifetime limit. In other words, their total eligible gain won’t exceed $10 million. That is still a terrific outcome! The remainder of this article focuses on planning strategies for those fortunate investors and founders whose success generates QSBS gains well beyond $10 million.

Maximizing the Cumulative Limit – “Stacking”

Because the $10 million lifetime limit under Subparagraph (A) of Section 1202(b)(1) applies on a per-taxpayer, per-issuer basis, a QSBS investor seeking to exclude additional gain must involve additional taxpayers to access additional exclusions. This strategy is commonly referred to as “stacking.”

Generally, for an investor to qualify, they must be the one to sell the QSBS. However, certain non-recognition transfers, including gifts and bequests at death, are exceptions to that rule.^ix The recipient of the gift/bequest is considered to have the same cost basis and holding period as the transferor.^x For stacking purposes, the critical point is that the transfer must be to a separate taxpayer for federal income tax purposes. But the transfer need not be recognized as a completed gift for gift tax purposes! Whether the transfer should be made as a completed gift or not will depend on the investor’s broader estate planning goals, available federal gift and GST tax exemption, and desire for control and flexibility. Below is a (non-exhaustive) list of transfers that would qualify for additional lifetime $10 million limits:

• Individuals (but generally, not including the investor’s spouse)^xi
• Non-grantor trust
• Incomplete Non-Grantor Trust (ING)
• Trust distribution to beneficiary other than grantor

Incomplete Non-Grantor Trusts (INGs) are self-settled asset protection trusts that can be established only in select states with favorable trust laws (Nevada, Delaware, Tennessee, among others). An ING is treated as a non-grantor trust for income tax purposes, meaning it is considered a separate taxpayer. However, the transfer of assets into an ING is not treated as a completed gift for federal gift tax purposes, allowing the grantor to retain certain benefits without triggering gift tax.

INGs are useful for “stacking” purposes in the right situation, given they create an additional taxpayer but are not considered to be a completed gift. Additionally, INGs may offer state income tax planning benefits, as the trust's income may not be subject to the grantor’s home state income tax.^xii

• Example 3: Recall John who first sold founder shares in 2025 with $10,000 total cost basis, allowing him to exclude $10 million of realized total gain that maximized his individual lifetime limit under Section 1202. Suppose that his remaining founder shares were previously transferred to a Delaware ING Trust and also sold in 2025.^xiii The ING Trust is now able to exclude an additional $10 million of realized gain, effectively "stacking" another $10 million exemption on top of John’s original.

Finally, it is important to note what is not included among the strategies that allow for an additional $10 million lifetime exclusion: the intentionally defective grantor trust (IDGT), often considered a staple of modern estate planning. While an IDGT involves a completed gift for gift tax purposes, it does not create a separate taxpayer for federal income tax purposes. The grantor remains responsible for reporting and paying the income tax on the trust’s earnings. As a result, an IDGT is not eligible to claim its own separate QSBS exclusion, since it is not treated as a distinct taxpayer.

Section 1202 and State Taxation

One other major concern involving “stacking” is the interplay of state taxes and Section 1202. Since Section 1202 is a gain exclusion applicable to federal income tax, each state must decide to (1) fully conform with federal tax treatment, (2) partially conform, or (3) disregard federal tax treatment entirely. Fortunately, most states either conform to Section 1202, have no state capital gains tax, or have no state income tax at all. The exceptions are shown in light red/pink and orange in the graphic further below.^xiv

The non-conforming states include California, Pennsylvania, New Jersey, Alabama, Mississippi, and Puerto Rico. The only partially conforming state is Hawaii, which offers a 50% Section 1202 exclusion from state tax.^xv

Source: QSBS Expert

Maximizing the Annual Limit – “Packing”

“Packing” refers to the strategic increase of QSBS cost basis to maximize the available gain exclusion under the 10x basis rule in Section 1202(b)(1)(B). Since this part of the code allows for an exclusion equal to the greater of $10 million or 10 times the taxpayer’s basis, increasing basis can directly expand the amount of tax-free gain. There are two primary ways this is typically achieved:

1. Contributing cash or property to a QSBS-eligible entity in exchange for new qualified shares, and
2. Timing the sale of low-basis and high-basis QSBS shares in the same tax year to blend basis for exclusion purposes.

Contributing cash or property in exchange for QSBS shares increases cost basis because the amount contributed is generally valued at its fair market value (FMV) on the date of contribution.^xvi Shares received in such a transaction will have their own distinct holding period, starting on the date of issuance, which can impact future eligibility under the 5-year holding requirement of Section 1202. The contribution itself should be done carefully in order to not exceed the $50M aggregate gross asset test prior to and after stock issuance.^xvii This strategy can be particularly useful when a business originally structured as a partnership or S corporation converts to a C corporation and contributes appreciated property in exchange for QSBS-eligible stock. Of course, any such actions should be coordinated with qualified tax and legal counsel.

Selling high-basis shares—regardless of whether they meet the 5-year holding requirement—in the same tax year as low-basis QSBS can effectively increase the realized aggregate cost basis, which in turn increases the 10x basis exclusion under Section 1202(b)(1)(B). Why does this work? Because the 10x basis rule is based on the total cost basis of all QSBS sold in the year, not just shares that meet the 5-year holding period for gain exclusion.^xviii While only gains on QSBS held for more than five years are eligible for exclusion, the cost basis from non-eligible shares can still count toward the 10x multiplier if sold in the same calendar year.

• Example 4: John wants to exclude additional QSBS gain but has already used up his $10 million lifetime exclusion through prior sales. He currently holds two QSBS positions:
  
  • Founder shares acquired in 2019 with a total cost basis of $10,000 (eligible for gain exclusion), and
  • Common shares acquired through option exercise in 2020 with a total cost basis of $2 million.
• In 2024, John sells all remaining shares. While only gains from the founder shares are excludable, the combined cost basis of $2,010,000 supports a 10x basis exclusion of up to ~$20.1 million. Thus, John can exclude a significantly higher amount of eligible QSBS gain in 2024, despite not all the shares satisfying the 5-year holding rule.

Conclusion – Order of Operations

Maximizing the tax benefits of QSBS requires careful planning and coordination – it is not something to navigate alone. Involving experienced legal, tax, and financial advisors is essential, as each individual’s goals, priorities, and circumstances are unique. In some cases, the most tax-efficient strategy may not be the right path, given broader personal or financial goals!

At Wealthspire Advisors, our role is to provide clear, objective guidance and to help put together and collaborate with the right team of experts to ensure your strategy supports what matters most to you.

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Endnotes

i Sec 1202(a)(1)

ii Sec 1202(c)(1)

iii Sec 1202(b)(2)

iv H.R.1 Sec 70431(a) 

v Sec 1202(c)(2)

vi Sec 1202(d)(1)

vii H.R.1 Sec 70431(c)

viii Sec 1202(e)(1), also refer to 1202(e)(3) for professions not considered to be a “qualified trade or business”

ix Sec 1202(h)(2)

x Sec 1202(h)(1)

xi Sec 1202(b)(3), while some expert legal disagreement exists as to whether the IRS would disallow a spouse’s separate $10 million exemption, it is considered more prudent to pursue other entities/individuals for “stacking” purposes.

xii Important to note that New York State famously does not recognize ING trusts.

xiii The investor would need to be wary of the Multiple Trust Rule under Sec 643(f) and seek expert legal counsel in establishing ING trust(s)

xiv https://www.qsbsexpert.com/how-does-my-state-treat-qsbs/ 

xv For tax years beginning on or after January 1, 2022, Massachusetts now fully conforms to Federal QSBS rules

xvi Sec 1202(i)(1)

xvii Corporation’s gross assets are normally valued at cost basis for this purpose, but contributed property is valued based upon FMV at the time of contribution per Sec 1202(d)(2)

xviii Sec 1202(b)(1)(B) says only the following: “10 times the aggregate adjusted bases of qualified small business stock issued by such corporation and disposed of by the taxpayer during the taxable year”