Many taxpayers assume they qualify because a company is a small startup, then discover at sale, or in an audit, that one test was never met. This guide walks through the tests that determine QSBS eligibility and flags where founders and investors most often slip up.

For the big-picture overview, see our complete guide to QSBS and Section 1202. The thresholds below reflect the current rules; note that some figures differ for stock acquired after July 4, 2025, which we cover in our article on the 2025 QSBS changes.

The five core QSBS eligibility tests

Think of QSBS eligibility as five gates. You have to pass all of them.

1. C corporation stock

The issuer must be a domestic C corporation when the stock is issued and, generally, throughout substantially all of your holding period. Stock in an S corporation, or an interest in an LLC or partnership, does not qualify. A company that later converts to a C corporation can begin generating QSBS, but the holding period generally starts at conversion.

2. Qualified small business (the gross-assets test)

The corporation’s aggregate gross assets must not exceed the statutory ceiling at all times before, and immediately after, the stock is issued. That ceiling is $50 million for stock issued on or before July 4, 2025, and $75 million for stock acquired after that date.

Aggregate gross assets generally means cash plus the adjusted basis of other property, with contributed property counted at fair market value. Once a company permanently crosses the ceiling, it can no longer issue QSBS, although stock issued earlier can remain qualified.

3. Original issuance

You generally must acquire the stock directly from the corporation in exchange for money, property other than stock, or services. Buying shares from an existing shareholder on the secondary market usually does not create QSBS in your hands. Special rules preserve QSBS status for stock received by gift, at death, or in certain partnership distributions.

4. Active qualified trade or business (the 80% test and excluded fields)

During substantially all of your holding period, at least 80% of the value of the corporation’s assets must be used in the active conduct of one or more qualified trades or businesses. Certain fields are excluded outright, and this is the requirement that trips up the most taxpayers.

Excluded businesses include services in health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, and brokerage; banking, insurance, financing, leasing, and investing; farming; mineral extraction; and operating a hotel, motel, or restaurant. Any business whose principal asset is the reputation or skill of one or more employees is also excluded.

5. Holding period

For stock acquired on or before July 4, 2025, you generally must hold it more than five years to claim any exclusion. For stock acquired after July 4, 2025, a tiered schedule applies: 50% at three years, 75% at four years, and 100% at five years or more. The holding period generally begins the day after the stock is issued.

The redemption trap that can undo eligibility

Even when the five tests are met, Section 1202’s anti-abuse rules can disqualify stock if the corporation redeemed shares near the time of issuance. In general terms, significant redemptions from any shareholder within a one-year window before or after issuance, measured against roughly 5% of the company’s value, can taint newly issued stock, and redemptions from the shareholder or related parties within a two-year window can do the same.

Companies that buy back equity from a departing founder or employee often have no idea they may be affecting everyone else’s QSBS eligibility.

A quick QSBS eligibility checklist

If any row gives you pause, that is the row an examiner will focus on. Sorting it out before a sale is far easier than defending it afterward. Our article on how QSBS claims are audited and defended explains what the IRS looks for, and crypto founders should also review our guide to QSBS for crypto startups, where the qualified-trade question is especially thorny.

Frequently asked questions about QSBS eligibility

What are the basic requirements for QSBS?

The stock must be in a domestic C corporation that was a qualified small business at issuance, acquired at original issuance, with at least 80% of assets used in an active qualified trade or business, and held for the required period.

What businesses do not qualify for QSBS?

Excluded fields include health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, and brokerage, plus banking and similar financial businesses, farming, mineral extraction, and hotels, motels, and restaurants, along with any business built primarily on the reputation or skill of key employees.

What is the gross-assets limit for a qualified small business?

Aggregate gross assets generally cannot exceed $50 million for stock issued on or before July 4, 2025, or $75 million for stock acquired after that date, tested at and immediately after issuance.

Does buying shares from another shareholder qualify for QSBS?

Usually not. QSBS generally must be acquired at original issuance from the company. Secondary purchases typically do not qualify, though gift and inheritance rules can preserve QSBS status.

Can redemptions affect my QSBS eligibility?

Yes. Redemptions near the issuance date can disqualify stock under Section 1202’s anti-abuse rules, even for shareholders who were not involved in the buyback.

Disclaimer. This article is for general information only and is not legal or tax advice. Reading it does not create an attorney-client relationship. Tax results depend on your specific facts. Past results do not guarantee future outcomes. Consult a qualified attorney about your situation before acting.