1202 stacking: the scenarios where QSBS stacking works

The facts

A founder incorporated a software company in Scottsdale in 2018 as a Delaware C corporation and holds every share, acquired at formation for a nominal amount. By 2022 the company was worth about $12 million. No sale process existed. The founder and spouse gave 15 percent of the stock to each of three separate irrevocable trusts, one for each child, and kept the remaining 55 percent. Each trust was drafted as a non-grantor trust: an independent trustee, no power in the founder to substitute assets or borrow, the spouse excluded as a beneficiary, and distribution standards that differ from trust to trust because the children differ. Each gift was appraised at roughly $1.8 million and reported on a gift tax return with adequate disclosure. In 2027 the company sells for $60 million.

Why the stack holds

Four taxpayers own the stock on the day of sale. Under Section 1202(h), each trust is treated as having acquired its shares in 2018, the way the founder did, so each has held for more than five years and each block is legacy stock with a $10 million cap. The trusts were created for three real beneficiaries with three real sets of terms, which is the design the multiple trust rule in Section 643(f) is least able to reach, and the gifts were finished five years before a buyer appeared, which takes the assignment of income doctrine off the table. The gifts used about $5.4 million of the couple's exemption, measured by the 2022 value, to move $27 million of eventual sale proceeds.

Two co-founders with different families run the same play in parallel. Because the trusts have different grantors and different beneficiaries, one founder's trusts are not aggregated with the other's. The arrangement reported in the press in 2026, two co-founders described as unmarried, childless brothers and eighteen trusts, is a different thing: the question it raises is the beneficiary count, not the co-founder count.

The facts

A founder couple in Paradise Valley has two children and five grandchildren. Their company, a legacy-track C corporation, was worth about $16 million in 2023. That year they gave 20 percent of the stock to each of two dynasty trusts, one for each child's family line, and allocated GST exemption to both gifts so that each trust has a zero inclusion ratio. Each trust is a non-grantor trust with an Arizona corporate trustee, and each is drafted to run for up to the 500 years Arizona's statute allows, with the savings clause and governing-law power described on the dynasty trust page. The company sells in 2028 for $50 million.

Why the stack holds

Each dynasty trust is a separate taxpayer with its own $10 million cap, and each block is worth $10 million at sale, so both trusts exclude their entire gain. The founders keep 60 percent and exclude $10 million of their own $30 million. That is the income tax result. The transfer tax result is the second job: $20 million of sale proceeds now sit in trusts that are outside the founders' estates, outside their children's estates, and exempt from GST tax on the way to the grandchildren, because the exemption was allocated when the stock was worth $3.2 million per trust rather than $10 million. Our guide to dynasty trusts, basis and generational planning covers the trade-off that comes with it: assets that leave the estate do not receive a basis step-up at death, which is precisely why a Section 1202 exclusion and a dynasty trust suit each other.

Two trusts for two family lines have different primary beneficiaries on their face. Five trusts for five grandchildren would also be five real beneficiaries. Ten trusts for five grandchildren would not be, and Section 643(f) exists for that case.

The facts

A vice president of engineering joined a Phoenix-area company in 2017. In 2019 she early-exercised her options for about $40,000 and filed a Section 83(b) election, so the shares were acquired, for tax purposes, on the day of exercise. The company's gross assets that year, measured as cash plus the tax basis of its other property, were about $30 million, well under the $50 million ceiling, even though the company's valuation was higher. The company is now worth $500 million and her shares about $18 million. In 2025, with no sale process in sight, she gave 45 percent of her shares to a single non-grantor trust for her two minor children, appraised at about $4 million. The company sells in 2027.

Why the stack holds

Her holding period runs from the 2019 exercise, not from the 2017 grant, and the trust inherits that period under Section 1202(h). At sale, her retained shares carry $9.9 million of gain and the trust's carry $8.1 million; each is inside a $10 million cap, so the whole $18 million is excluded and nothing is taxed. One trust was enough. A second trust for the same two children would have added nothing but a question. Her colleagues on the senior executives page hold the same kind of stock and face the same arithmetic: restricted stock units are acquired when they settle, unvested restricted stock is acquired at vesting unless an 83(b) election was made, and an option exercised in 2023 starts a clock that no gift can advance.

The facts

A founder formed an Arizona LLC taxed as a partnership in 2015. In June 2019, when the business's assets were worth about $1.5 million, the LLC converted by statute into a Delaware C corporation and the members received newly issued shares for their membership interests. In 2021, at a $6 million valuation, the founder gave 20 percent of the stock to each of two non-grantor trusts, one for each child, and kept 60 percent. The company sells in 2027 for $45 million.

Why the stack holds

The conversion is a contribution of the LLC's property to a new corporation in exchange for stock, so the stock was originally issued for property other than stock, and the original issuance gate is passed. Three consequences follow from Section 1202(i). The holding period begins in June 2019, not 2015, and passes five years in June 2024. The stock's basis, for Section 1202 purposes, is the $1.5 million value of the contributed property, so the appreciation the LLC built before 2019 is not eligible gain. And the alternative cap becomes ten times that basis: $15 million for a holder who sells all of it in one year. After the gifts, the founder's retained shares carry $900,000 of basis, so his cap is the greater of $10 million or $9 million, which is $10 million; each trust's cap is likewise $10 million. Three taxpayers exclude $27.4 million against the $15 million a single holder could have claimed.

The contrast is Leto v. United States, decided in the District of Arizona in 2022 on the government's motion for judgment on the pleadings; the case later settled. There the LLC had elected S corporation status and was later reincorporated, so the owner was treated as receiving C corporation stock in exchange for stock, which fails original issuance under federal law regardless of how Arizona describes the transaction. Same state, same kind of company, no exclusion to stack.

The facts

A founder incorporated a company in August 2025 as a Delaware C corporation. Her stock is post-enactment stock: a $15 million cap, a $75 million gross assets ceiling, and a partial exclusion beginning at three years. In early 2026, at an $8 million seed valuation, she gave 20 percent of the stock to each of two non-grantor trusts, one for each child, and kept 60 percent. An acquirer is expected in the company's third to fifth year at about $75 million.

Why the stack holds

The cap in Section 1202(b) limits the eligible gain each taxpayer may take into account, and the exclusion percentage then applies to that eligible gain. So after three years each of the three holders takes $15 million of gain into account and excludes half of it; after four years, three quarters; after five, all of it. The part of the $15 million that is not excluded is Section 1202 gain, taxed at a maximum 28 percent plus the 3.8 percent net investment income tax, and the founder's gain above her cap is ordinary long-term gain at 20 percent plus 3.8. The gift did not restart any clock. The trusts are treated as having acquired their shares in August 2025, and they climb the same staircase on the same schedule as the founder.

The table is the argument for patience. At year three the stack excludes $22.5 million; at year five it excludes $45 million, and the family's federal tax falls from roughly $14.3 million to roughly $7.1 million. Without any stack, a year-five sale would leave the founder with $60 million of taxable gain and about $14.3 million of federal tax. Our article on Section 1202 after the One Big Beautiful Bill Act sets out the statutory changes behind these numbers, including the inflation indexing that begins after 2026.

The facts

A founder acquired her common stock at formation in 2019 for a nominal amount. In 2026 she also bought $2 million of the company's new preferred round, when the company's gross assets were still under $75 million. She now holds two lots of the same issuer: legacy common with a $10 million cap and a five-year clock that ran out in 2024, and post-enactment preferred with a $15 million cap, a ten-times-basis alternative of $20 million, and a clock that reaches three years in 2029.

Why the stack holds

A gift carries a lot's track with it. In the design that follows, the legacy common goes to two non-grantor trusts, one per child, each of which arrives with a $10 million cap and a holding period already past five years, so the trusts are ready for a sale at any time. The founder keeps the preferred, which will earn its full exclusion in 2031 and, because she paid real money for it, may protect up to $20 million under the ten-times rule if the preferred is what she sells that year. The statute coordinates the two caps for a taxpayer who holds both tracks of the same issuer; they are not simply added, which is another reason the legacy lot and the post-enactment lot are better held by different taxpayers than by one. Convertible preferred that later converts to common keeps its status and its holding period under Section 1202(f).

The facts

An investor in North Scottsdale holds two lots of one company. Lot A is common stock from 2018 with $50,000 of basis, now worth $14 million. Lot B is preferred stock from 2019, bought for $3 million, now worth $30 million. Both are legacy stock, both past five years. In 2024 she gave Lot A to a non-grantor trust for her son. She kept Lot B. The company sells in 2027.

Why the stack holds

The cap is the greater of $10 million or ten times the basis of the shares a taxpayer sells that year, and basis added after issuance is disregarded. Lot B's cap is ten times $3 million, or $30 million, which covers its entire $27 million of gain; a $10 million dollar cap would have left $17 million exposed. Lot A carries almost no basis, so in anyone's hands its cap is $10 million; in the trust's hands that $10 million is a second cap rather than part of hers. Together the family excludes $37 million. Had she kept everything and sold it in one year, her single cap would have been ten times $3.05 million, or $30.5 million.

This is the design point the companion guide makes about packing: low-basis shares are the ones that benefit from a new taxpayer, and high-basis shares are the ones that benefit from staying with a holder who can use the ten-times figure. Stock issued in exchange for appreciated property takes a Section 1202 basis equal to the property's value, which is the other way a cap gets larger. For high-basis holders, spreading a sale across tax years can also matter, because the ten-times figure is computed year by year while the dollar cap is cumulative.

The facts

A founder sold his first company, Company A, in 2026 for a $9 million gain on legacy stock held ten years, and excluded all of it. He also holds founder stock in Company B (formed 2020) and Company C (formed 2022), and in 2023 gave a block of each to two non-grantor trusts, one for each daughter. Separately, in 2024 he sold shares of Company D, which he had held for only eight months, at a $4 million gain, and within 60 days reinvested the proceeds in newly issued stock of two operating companies, E and F, so every lot in this scenario is legacy stock.

Why the stack holds

Company A's exclusion has no effect on Company B or Company C: each issuer carries its own cap in each holder's hands. With three taxpayers and two remaining companies, the family holds six caps before any rollover, each worth $10 million on legacy stock. The Company D sale qualified for Section 1045 because he had held the stock for more than six months and reinvested within 60 days; the $4 million of gain is deferred, the replacement shares in E and F take a tacked holding period that includes his eight months in D, and when E and F are sold years later each is a separate issuer with a separate cap. The election is made on the return for the year of the sale; the IRS has granted relief for a late election in some private rulings and refused it in others, so the timely election is the only one to plan on. Companies E and F must be real operating businesses that meet the active business test for at least the first six months; a rollover into a company that holds its capital in cash fails, which is exactly how the replacement company failed in Owen.

The facts

A founder couple expects $150 million of gain on legacy stock and has three children. Years before any sale, they gave shares to three non-grantor trusts, one per child, sized so that each block will carry about $10 million of gain at the expected price. That stack, with the founders' own cap, excludes $40 million. The remaining $110 million of gain will be taxed. Around the stack they built the rest of a high net worth estate plan: a spousal lifetime access trust funded with additional shares, an irrevocable life insurance trust, and a charitable remainder trust for the share they intend to give away.

Why the stack holds, and what the other layers do

The three children's trusts add three caps because they are non-grantor trusts with three distinct beneficiaries. The SLAT adds none: it is a grantor trust, because the spouse is a beneficiary, so its shares are sold on the founders' return under their single cap. What the SLAT does instead is remove the future growth of those shares from both estates, using the couple's $30 million of exemption at today's value, while keeping a lifeline to the trust through the beneficiary spouse. The ILIT adds no cap either; it supplies cash at death so that no one has to sell shares to pay tax. The charitable remainder trust is exempt from income tax and pays the founders an annual amount, but it must be funded before the sale is practically certain, for the same reason a late gift to a child fails. Commentators treat a charitable remainder trust as another potential holder of qualified stock, and note that how excluded gain is characterized when the trust makes distributions is not settled. A BDIT or BDOT, taxed to its beneficiary, shares the beneficiary's cap and adds none. Stacking is the income tax layer of this plan. It is not the plan.

The facts

A founder moved her family from Palo Alto to Paradise Valley in 2022. She sold the California house, moved the children's schools, registered to vote, changed her licenses and her advisors, and spent the year in Arizona. In 2023 she created two non-grantor trusts, one for each child, with an Arizona trust company as trustee. Her daughter lives in Scottsdale; her son in Austin. Both trusts are fully discretionary. The company sells in 2027.

Why the stack holds

Federally, three taxpayers each claim a cap. In Arizona, the stacked gain is excluded on the state return too, because Arizona conforms to the Internal Revenue Code as of a fixed date and H.B. 4168, signed June 13, 2026, moved that date to January 1, 2026. Arizona has no estate, inheritance or gift tax. California allows no exclusion for qualified small business stock at all, and it taxes a non-grantor trust's income when a trustee or a noncontingent beneficiary lives there. In this scenario there is no California fiduciary and no noncontingent California beneficiary, and gain on stock is sourced to the seller's residence, so her own gain is Arizona gain. The stack therefore works at both levels.

The same facts with one change would not. A California sibling named as trustee, or a child who moves to California holding a noncontingent interest, gives California a share of that trust's income. A move made months before a sale invites a residency audit that a move made five years before does not. And California can tax a resident beneficiary on accumulated income when it is later distributed. This is the scenario where California counsel belongs on the team before anyone relies on the stack.

The facts

A founder gave shares to three non-grantor trusts in 2021 and kept 55 percent in his revocable living trust. He dies in 2026, a year before the company sells. His revocable trust becomes irrevocable at his death and passes the shares to his wife and children under its terms.

Why the stack holds

The three children's trusts are unaffected. They were separate taxpayers before his death and remain so, with the same carryover basis, the same tacked holding period and the same caps. His own shares are transformed twice. First, under Section 1014, their basis becomes their value at his death, so the gain built up during his life largely disappears without any need for an exclusion. Second, under Section 1202(h), a transfer at death is a protected transfer: the shares keep their qualified status and his holding period in the hands of his estate, his successor trust and his heirs, so growth between his death and the sale is still eligible gain, and the estate and the now-irrevocable trust are taxpayers with caps of their own. Trust administration has to document both facts: the date-of-death value that sets the new basis, and the original issuance records that support the exclusion for post-death growth. Our guide to revocable trusts, estate tax and the basis step-up covers the first; the audit file described above covers the second.

The facts

A founder has two children in their thirties, both established in their own careers. In 2023, at a low valuation, he gave each child shares outright, appraised at about $2 million per child, and reported the gifts on Form 709. The company's shareholder agreement permitted the transfers with board consent. In 2027 the company sells, and each child's block is worth $9 million.

Why the stack holds

Each child is a separate taxpayer with a $10 million cap, and Section 1202(h) gives each child the founder's acquisition date, holding period and basis. Both blocks are excluded in full, alongside the founder's own cap. Nothing about the result required a trust. What a trust would have supplied is what an outright gift lacks: protection from a child's creditors and a divorce, a trustee's control over timing and distributions, and a structure that can hold the proceeds for grandchildren. An outright gift to a married child is that child's separate property in Arizona, but separate property can be commingled, and a child who moves to California carries the state tax consequences of Scenario 10 with them. Each child also signs at closing, so the drag-along and the joinder are the founder's problem to think through before the gift, not after. The children's trusts guide compares the two routes.