1202 Exclusion – Cashflow benefits for all

An individual investor/owner who acquired the stock of the corporation at original issue and has held the stock for at least five years, can exclude a significant amount of capital gain from US taxation on the disposition of the stock, up to the greater of: USD 10 MM or 10 times basis. Due to the substantial tax savings, private equity firms and family businesses have been compelled to structure deals to take advantage of the US section 1202 tax exclusion. There is often a short window of opportunity for these investments, as the company’s assets cannot exceed USD 50 MM upon issuance of the stock, but can grow exponentially without affecting the stock issuances prior to reaching the USD 50 MM threshold.

This favourable provision has become a useful tool in estate planning as the qualification of the original issuance and holding period of the investor of the stock passes via gifting or inheritance of the stock. Although only US corporations can qualify as a QSB, there is no requirement for the US corporation to maintain its business activities solely in the US. Thus, this powerful provision can provide benefits for non US business activities seeking funding from US PE firms or family businesses, or for US corporations expanding business abroad. There are also advantageous tax rules for those investors who sell before the five-year holding period and timely reinvest such proceeds into another QSB. Attractive tax savings for savvy investors subject to US taxation can also benefit activities across borders seeking funding from the US.

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Photo: Iuliia Sokolovska - stock.adobe.com