People are saving significant amounts of tax dollars from this and keeping that money within their estate for future wealth building.
This is a relatively new topic for a lot of people out there because, at the federal level, the material tax benefits have not been significant, so no one’s really paid attention to it.
Tax code changes have made the benefits of QSBS more pronounced:
*Includes 3.8% Obamacare surcharge
Prior to 2013, the capital gain rate was 15%, so if you sold your company and you made $10 million and you didn’t have QSBS, at the federal level you would pay $1.5 million of tax. Instead, if you qualified for QSBS, then you got to exclude $5 million and on the $5 million you didn’t exclude, the tax rate was 28%. It’s kind of quirky, but it’s just in the rules.
So on the gross gain of $10 million, the effective rate is 14%, right? In addition to that, 7% of what you excluded or $350,000 counts as income for alternative minimum tax (AMT) purposes. That equates to 98 basis points on the additional tax rate, so now you’re at 14.98%.
So, as I said, if you don’t have QSBS, you pay 15%. If you’ve got QSBS, your tax rate was 14.98%, so on a $10 million gain, your exact savings were $2,000. It just wasn’t anything to really get excited over regardless if people were aware of it or not.
Now, what has happened is the 15% rate that you’re comparing the QSBS rate to has gone up to 23.8% because capital gain rate went from 15% to 20%, and the Affordable Care Act Medicare Tax of 3.8% on investment income was added. The savings are more material.
The other part is the exclusion has gone up to 75% or 100%. In the case of 100%, there’s no complicated math. It’s just a lot of extra money in someone’s pocket.