Two QSBS strategies explained

A pair of tax rules gives startup founders two different ways to cut federal tax on an exit: Section 1202 can erase gain, while Section 1045 can postpone it. (thestartuplawblog.com) Section 1202 applies to qualified small business stock, or stock issued by a qualifying domestic C corporation, and the core test is time: hold the stock for at least five years. If that test is met, federal law says a non-corporate taxpayer can exclude gain, with 100 percent exclusion available for stock acquired after September 27, 2010. (law.cornell.edu, thestartuplawblog.com) Joe Wallin wrote on April 12, 2026 that founders should treat Section 1202 as the end goal and Section 1045 as the fallback when a sale arrives too early. His example is a buyer showing up in year two instead of year five. (thestartuplawblog.com) Section 1045 is the rollover rule. A taxpayer other than a corporation can sell qualified small business stock held for more than six months, buy replacement qualified small business stock within 60 days, and defer gain to the extent the replacement purchase price covers the proceeds. (law.cornell.edu, irs.gov) The two provisions solve different problems. Section 1202 is a permanent exclusion up to the statutory ceiling, while Section 1045 keeps the tax bill from landing immediately when the five-year clock has not run out. (thestartuplawblog.com, rsmus.com) Wallin’s post says Section 1202 currently offers an exclusion of up to the greater of $15 million or 10 times adjusted basis, while Section 1045 has no dollar cap on deferral. The legal text for Section 1045 instead works through basis reduction: deferred gain lowers the basis of the replacement stock. (thestartuplawblog.com, law.cornell.edu) That basis cut is what preserves the future tax bill. Cornell’s text of Section 1045 says the deferred gain reduces basis in the new qualified small business stock, and the Internal Revenue Service’s 1998 procedure says taxpayers make the election on the return for the year of sale. (law.cornell.edu, irs.gov) The replacement stock also has to be qualified small business stock. RSM notes that both the old stock and the new stock must meet the Section 1202 definition, including the domestic C corporation rule and the qualified small business stock tests that practitioners usually check at issuance. (rsmus.com) For founders, the choice usually turns on calendar math. If the stock has cleared five years, Section 1202 is the cleaner answer; if the stock has cleared six months but not five years, Section 1045 can carry the gain into a new startup bet instead of recognizing it right away. (thestartuplawblog.com, law.cornell.edu)