QSBS trust stacking, and starting with an LLC and converting to a C Corp later, can save you tens of millions in taxes.

QSBS: the tax break every US founder should know about

QSBS (Qualified Small Business Stock) is one of the best tax benefits available to US founders and investors. Amazingly, many founders still don’t know about it.

The basic idea is simple: if you own qualifying stock in a US C Corporation and meet the holding requirements, you may be able to sell your shares without paying federal capital gains tax on a substantial part of the gain.

The QSBS tax benefits means no federal capital gains tax (and in many states, no state capital gains tax) on up to $15 million or 10x your investment, whichever is higher.

But there are a few tips and tricks to help you multiply that so you could get tens of millions in tax-free benefits, as explained by Brian Lamb from Promissory, a service that helps you set up QSBS trusts to benefit from a QSBS multiplier.

The QSBS trust multiplier

If your shares qualify for QSBS, you may be able to transfer some of them into trusts for family members.

Because the shares are gifted, the trust can inherit your existing QSBS holding period. So if you’ve already held your shares for three years, for example, you don’t necessarily reset the five-year clock when you make the transfer.

Instead of one QSBS exclusion, a family could potentially benefit from several.

That can turn a $15 million exclusion into $30 million, $45 million or potentially more, depending on how the structure is set up.

The important bit is when you do it. Doing this just before selling your company is potentially problematic. Brian’s advice is that earlier is better: your shares are generally worth less, the gift uses less of your lifetime gift exemption, and you put meaningful time between establishing the trust and an eventual exit.

For many founders, Series A or Series B could therefore be the moment to start thinking about it, when you’ve got product-market fit, you’re raising a priced round and an eventual exit is beginning to look less hypothetical.

The LLC-to-C-Corp QSBS strategy

There’s another clever strategy, although this one isn’t for everyone.

Normally, if you’re building a venture-backed US startup, you’ll incorporate as a C Corporation from day one.

But some founders may benefit from starting as an LLC and converting to a C Corp later.

Why? Because the value of the business when it converts can potentially create a much larger basis for calculating the 10x QSBS limit.

Imagine an LLC raises $50 million and the founder owns 20% when it converts. That could imply a $10 million basis for the founder, potentially producing a $100 million QSBS exclusion under the 10x rule.

That’s huge, but it’s not something I’d recommend to every founder.

Starting with a C Corp remains simple and fundraising-friendly. An LLC-first structure adds complexity and conversion costs, so this is more likely to make sense for experienced or repeat founders who understand exactly why they’re doing it.

And then there’s the SAFE problem…

There’s one more QSBS issue investors should be thinking about.

When does the five-year QSBS clock start if you invest using a SAFE?

Does it begin when you invest, or only when the SAFE converts and you actually receive shares?

That distinction could be worth millions if the company exits within five years.

It’s one reason we’re introducing the SeedLegals SAFER, a SAFE-like investment mechanism where the investor gets shares immediately, while retaining downside protections if the next round comes in below the cap.

QSBS used to be something relatively few founders talked about. That’s changing fast. A little planning today can potentially save millions of dollars at exit, it’s something every US founder and investor should understand.

QSBS and trust planning are complex tax and legal areas. Get professional advice based on your individual circumstances before implementing any of these strategies.