Federal Tax

QSB Stock - Section 1202 - holding period and rollovers

  • 1.  QSB Stock - Section 1202 - holding period and rollovers

    Posted 01-01-2017 10:49 AM

    • Often, QSB offerings start as a convertible note, to be converted to QSB stock (at the company’s option) when they get sufficient funding.  Interest accrues and is also converted to stock.  The time spent as a note varies, but can run up to a year or two, possibly more.  There is no investor option to get the money out, and in fact if the conversion doesn’t happen it’s because the company failed, and the chances of receiving even the investment (never mind the interest) whole is pretty low.  Outside of the fact that the company will eventually get a deduction for the interest, this acts very much like cumulative preferred PIK (Payment In Kind) stock.
      1. Does this therefore start the S1202 5 year holding period when the note is issued, or when the conversion occurs?
    • For a S1202 rollover, does the [up to] 60 days from cashing out to investing in a new investment extend the holding period?  In other words, is it 5 years from initial investment (note or stock, depending on the answer above), or is it that plus the cumulative time waiting for a new S1202 investment?  (Cumulative time if more than one rollover occurs during the 5 years.)
    • Given that many QSB investments (most?) start out as a convertible note as described above, and possibly affected by the answer above as to whether the convertible note counts as a S1202 investment, does the rollover have to be invested in a new stock offering, or can the convertible note count?  If it must be stock, then a rollover is pretty much impossible – not only do you have to find an investment that you think is worthwhile, you also have to find one that EITHER is just about to convert to stock, or find one that is willing to issue additional stock to you.  AND given that the stocks rarely trade, they’d have to do a special appraisal to come up with a fair purchase price.

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    Rhona Liptzin
    CPA, CFP
    WANK & LIPTZIN, LLP CPAs
    Mineola NY
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  • 2.  RE: QSB Stock - Section 1202 - holding period and rollovers

    Silver Most Valuable Member
    Posted 01-02-2017 02:36 PM

    I have always thought that the statutory requirements were overly restrictive considering the purpose of the exemption.  QSB Stock is defined in Section 1202(c) and does not include equity other than stock acquired at original issuance. Subsection (h) allows certain stock acquired in tax free exchanges to be included and there is an allowance for investment in Specialized Small Business Investment Companies.   I will check the regulations to see if there are any other alternatives. 

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    Robert Barnett
    CPA, ESQ.
    Capell Barnett Matalon & Schoenfeld LLP
    JERICHO NY