Qualified Small Business Stock After the One Big Beautiful Bill Act: What California and Nevada Business Owners Need to Know
Qualified Small Business Stock After the One Big Beautiful Bill Act: What California and Nevada Business Owners Need to Know
About This Series
This is Part 3 of our 2026 Cross-State Wealth and Business Planning Series, a six-part sequence exploring how California residents can lawfully reduce their state tax burden by relocating to Nevada or another low-tax state or by using Nevada-based trust, entity, and corporate structures. Part 1 covered the legal path from California to Nevada residency. Part 2 addressed trust planning for those who choose to stay. This installment turns to the federal Qualified Small Business Stock exclusion and why California's refusal to conform makes complementary state-level planning essential.
If you own stock in a qualifying C corporation and you’re thinking about selling, the tax landscape just shifted significantly in your favor. The One Big Beautiful Bill Act, signed into law on July 4, 2025, expanded the Section 1202 qualified small business stock (QSBS) exclusion in ways that matter for founders, early investors, and business owners planning a future exit. The per-issuer gain cap is higher. The gross asset threshold is larger. And for the first time, you can claim a partial exclusion without waiting the full five years.
But here’s the part most articles skip: if you’re a California resident, none of these federal improvements help you at the state level. California does not conform to Section 1202 — not partially, not at all. Every dollar of QSBS gain is taxed at California’s top rate of 13.3%. That’s why this article matters for our clients on both sides of the state line.
What Is Qualified Small Business Stock?
Section 1202 of the Internal Revenue Code allows non-corporate taxpayers — individuals, certain trusts, and estates — to exclude some or all of the gain from the sale of qualified small business stock. The exclusion applies at the federal level and, in states that conform, at the state level as well.
To qualify, the stock must meet several requirements. The issuing company must be a domestic C corporation. At the time of issuance, the corporation’s aggregate gross assets cannot exceed the applicable threshold. At least 80% of the corporation’s assets must be used in a qualified trade or business — which specifically excludes professional services (law, accounting, consulting, financial services, health care, and athletics, among others). The taxpayer must have acquired the stock at original issuance, either for cash, property, or services. And the taxpayer must hold the stock for at least the applicable minimum period.
When those requirements are met, the gain from selling that stock can be partially or fully excluded from federal income tax. For stock that qualifies for the full 100% exclusion, the excluded gain is also exempt from the 3.8% net investment income tax under Section 1411.
What Changed Under the One Big Beautiful Bill Act
The OBBBA, signed into law as P.L. 119–21 on July 4, 2025, made three significant changes to Section 1202. All three apply only to QSBS issued after July 4, 2025. Stock issued before that date continues under the prior rules.
Tiered Holding Period with Graduated Exclusions
Before the OBBBA, you had to hold QSBS for at least five years to claim any exclusion. Now there’s a graduated structure. Stock held for more than three years qualifies for a 50% exclusion. Stock held for more than four years qualifies for a 75% exclusion. Stock held for more than five years still qualifies for the full 100% exclusion.
This matters for founders and investors who may need to sell before reaching the five-year mark. Under prior law, selling at four years and eleven months meant zero federal exclusion. Now the same sale would qualify for a 75% exclusion — a meaningful difference on a large gain.
Higher Per-Issuer Gain Cap
The OBBBA raised the per-issuer gain limitation from $10 million to $15 million. The alternative calculation — 10 times the adjusted basis of the stock sold — remains available, so you use whichever is greater. Starting in 2027, the $15 million cap will be indexed annually for inflation under new Section 1202(b)(4).
Increased Gross Asset Threshold
For stock issued after July 4, 2025, the corporation’s aggregate gross assets can be up to $75 million (previously $50 million) at the time of issuance and remain eligible. This threshold will also be indexed for inflation beginning in 2027. The practical effect is that more mid-size companies now qualify — businesses that had grown past the old $50 million ceiling can issue new QSBS-eligible stock if they remain under $75 million.
California’s Non-Conformity: The 13.3% Problem
This is where the planning gets serious for our California clients. California Revenue and Taxation Code does not recognize the Section 1202 exclusion in any form. A California resident who sells QSBS and excludes $10 million at the federal level still owes California income tax on the full $10 million gain. At California’s top rate of 13.3%, that’s approximately $1.33 million in state tax on gain that is completely excluded for federal purposes.
The OBBBA’s enhancements — higher caps, lower holding thresholds — do not change this reality. California’s non-conformity is statutory, and there is no pending legislation to change it.
This is why we counsel California clients to think about QSBS planning in combination with the strategies we discussed in Part 1 (domicile relocation) and Part 2 (complete gift non-grantor trusts). The federal exclusion handles the federal tax. The state tax requires a separate, complementary strategy.
Nevada, by contrast, has no state income tax. A Nevada resident selling QSBS that qualifies for the full 100% exclusion pays zero federal tax and zero state tax on the excluded gain. The result is a complete tax-free exit at both levels.
Restructuring to Capture the OBBBA Benefits
Because the OBBBA’s enhanced provisions apply only to stock issued after July 4, 2025, business owners who currently operate as LLCs, S corporations, or partnerships face a threshold question: is it worth converting to a C corporation to take advantage of the new rules?
The answer depends on several factors. First, the business must be in a qualified trade or business — which excludes professional services firms. Second, the corporation’s gross assets must be under $75 million at the time of issuance. Third, the shareholders must acquire the stock at original issuance, meaning a conversion or incorporation event must be structured carefully to ensure the stock qualifies.
For businesses that meet the criteria, a conversion from LLC to C corporation (or a new issuance of stock in connection with a restructuring) can position the owners to capture the enhanced exclusions on a future sale. The key is timing: stock issued before the OBBBA remains under the old rules, and stock issued after must satisfy the new requirements from the date of issuance forward.
I’ve been advising clients on entity structuring for over 36 years, and the calculus has shifted. Before the OBBBA, the $50 million gross asset cap and the rigid five-year holding period made QSBS planning impractical for many growing companies. The new $75 million threshold and tiered exclusions bring a substantially larger set of businesses into play.
Layering QSBS with Nevada Trust and Entity Planning
For California residents, the most effective approach often combines QSBS at the federal level with Nevada trust or entity planning at the state level. The federal exclusion eliminates the federal tax. A properly structured Nevada Complete gift non-grantor trust — the structure we discussed in Part 2 of this series — or a domicile change to Nevada can address the California state tax (or another no-income-tax state, as discussed in Part 1).
Consider a founder who holds QSBS in a company approaching a sale. At the federal level, Section 1202 can exclude up to $15 million (or 10 times basis, whichever is greater) of gain. At the state level, the founder has three options: remain in California and pay 13.3% on the full gain; transfer the stock to a Nevada complete gift non-grantor trust before the sale (if the transfer qualifies as a completed gift and the trust is properly administered in Nevada, the gain may escape California taxation); or relocate to Nevada before the sale, establishing genuine domicile as described in Part 1.
The choice depends on the founder’s personal circumstances, the size of the gain, and the timeline to sale. But the principle is consistent: QSBS handles the federal side, and Nevada planning handles the state side. Together, they can eliminate or dramatically reduce both layers of tax.
Common Mistakes in QSBS Planning
The exclusion is generous, but the requirements are technical and unforgiving. Here are the mistakes I see most often:
Operating as an LLC or S corporation and assuming the exclusion is available. It is not. Section 1202 requires a C corporation. If you want the exclusion, you need to convert — and conversion itself creates tax and structural issues that need to be handled correctly.
Exceeding the gross asset threshold at issuance. The $75 million cap (or $50 million for pre-OBBBA stock) is measured at the time the stock is issued. If the company has already crossed the line, newly issued stock does not qualify.
Failing the active business requirement. At least 80% of the corporation’s assets must be used in a qualified trade or business during substantially all of the taxpayer’s holding period. Passive investment assets, excess cash, and non-business real estate can push you below the 80% threshold.
Not tracking original issuance. The exclusion requires that you acquired the stock at original issuance for money, property, or services. Stock purchased on the secondary market does not qualify, even if the underlying company meets every other requirement.
Frequently Asked Questions
Can I use the Section 1202 exclusion if my business is an LLC?
No. The exclusion applies only to stock in a domestic C corporation. If your business is an LLC taxed as a partnership or S corporation, you would need to convert to a C corporation and issue qualifying stock after the conversion. Stock issued after July 4, 2025, would be subject to the enhanced OBBBA rules.
Does California recognize any part of the QSBS exclusion?
No. California does not conform to Section 1202 at all. QSBS gain that is fully excluded at the federal level is fully taxable in California at the state’s top rate of 13.3%. This has not changed with the OBBBA.
What is the maximum gain I can exclude under the new rules?
For QSBS issued after July 4, 2025, the per-issuer cap is the greater of $15 million or 10 times the adjusted basis of the stock. The $15 million figure will be indexed for inflation starting in 2027. For QSBS issued before that date, the prior $10 million cap applies.
Can I sell QSBS after three years and still get an exclusion?
Yes, if the stock was issued after July 4, 2025. Under the OBBBA’s new tiered structure, QSBS held for more than three years qualifies for a 50% exclusion, more than four years for 75%, and more than five years for the full 100%. Stock issued before the OBBBA still requires a five-year hold for any exclusion.
Is it worth converting to a C corporation just for the QSBS exclusion?
It depends on the size of the anticipated exit, the company’s gross assets, whether the business qualifies as an active trade or business, and the tax cost of conversion. For businesses with significant appreciation and a realistic path to a sale or liquidity event, the math often favors conversion — but the analysis is fact-specific and should involve both legal and tax counsel.
Series links: Part 1 — “Moving East: The Legal Path from California to Nevada Residency.” Part 2 — “Staying Put, Planning Smart: Complete Gift Non-Grantor Trusts for California Residents.” Part 3 (this article)— “Qualified Small Business Stock After the One Big Beautiful Bill Act.” Part 4 — “Creative Structuring for QSBS: Nevada Subsidiaries, Entity Conversions, and Strategies to Maximize the Section 1202 Exclusion.” Part 5 — “You Crossed the Line — Now What? Post-Relocation Compliance and FTB Defense.” Part 6 — “California Still Wants Your Money: How the FTB Taxes Nevada Residents on California-Client Income.”
Talk With Us
If you own stock in a C corporation — or are considering a conversion — and a sale or liquidity event is on the horizon, the OBBBA changes are worth understanding now. We can help you assess whether your stock qualifies, whether restructuring makes sense, and how to coordinate federal QSBS planning with state-level strategies.
Strategic Counsel for Business, Asset Protection & Tax Planning
Phone: (775) 825-5700 | Email: team@smallhouselaw.com
Website: www.smallhouselaw.com
Licensed in California and Nevada.
DISCLAIMER
This publication is for informational purposes only. It does not constitute legal or tax advice and does not create an attorney-client relationship. Section 1202 planning involves complex federal and state tax issues. Outcomes depend on individual facts, corporate structure, holding periods, and current law, which may change. The One Big Beautiful Bill Act provisions discussed here apply to stock issued after July 4, 2025; pre-existing stock remains subject to prior rules. Consult qualified legal and tax professionals before implementing any strategy.
