Today’s distressed economy has many business owners rethinking their assets, finances and business strategies. No matter the industry, these decisions will be largely influenced by the tax implications of each option.
In the Cannabis industry, making the most tax-effective moves is even more crucial, given the limited tax strategies available under Section 280E. Section 1202 of the Internal Revenue Code (IRC) offers a unique and often overlooked tax savings opportunity for shareholders looking to sell ownership interests in a C corporation.
IRC Section 1202 allows non-corporate shareholders (individuals or partnerships) of C corporations to exclude up to 100% of capital gains on the sale of eligible qualified small business stock (QSBS). To be eligible, the QSBS must have been held for more than five years and been directly acquired by original issuance from a U.S. domestic C corporation.
The amount of the exclusion depends on when the QSBS was acquired. Non-corporate taxpayers (individuals or partnerships) selling QSBS acquired before September 28, 2010 qualify for a 50-75% exclusion on qualifying gain, while shareholders selling QSBS acquired on or after September 28, 2020 are eligible for up to a 100% exclusion.
Gain exclusion is limited (per shareholder) to the greater of $10 million or 10 times the aggregate adjusted basis of the QSBS investment.
Shareholders are not eligible for the exclusion if the C corporation’s tax basis in gross assets exceeded $50 million, before and immediately after stock issuance.
Application to the Cannabis Industry
Because Section 1202 excludes the gain from recognition, it is not a “deduction or credit” as prohibited by Section 280E, making it a highly valuable tax benefit for cannabis shareholders when it comes time to sell their interests in the company.
Whether you are looking to sell your Cannabis business or choose the right tax structure for a new one, the benefits under Section 1202 should be a consideration in your current and future business exit strategies. Contact John Pellitteri, Grassi’s Cannabis Practice Leader, for more information.