Updates to Qualified Small Business Stock and R&E Expensing Under OBBBA

Welcome to the 38th episode of How Tax Works. I'm Matt Forth. In this episode I'm going to discuss updates and changes to Qualified Small Business Stock, the exclusion for Qualified Small Business Stock under section 1202 of the Internal Revenue Code, and RME Expensing under 164 and now 144 CAVE of the Internal Revenue Code under Public Law 11921, which I refer to as OV Thrice. How Tax Works is meant for informational and entertainment purposes only. This may be attorney advertising and it is not legal advice. Please, please, please hire your own attorney, please hire your own attorney. How Tax Works is intended to help listeners navigate the intricacies and complexities of tax law, regulations, case law, and guidance to demystify how taxes shape the financial and business decisions we all make. Administrative stuff, episodes in two weeks. Next episode is going to talk about what you do if, if, I guess when, I don't know. You get audited. I think it's an interesting one. Dropping an F-bomb, usually the first one I tell people to do, but you know, whatever, here we are. Questions, comments, or constructive criticism, email me at my FRB email address. I have some, some webinars coming up. They're free, advanced tax strategy series. I've talked about it enough on this. I'm going to keep doing it. And this might be the last episode before the first one. I'm not sure I haven't totally worked out the dates yet. They're all Thursdays, one o'clock Eastern. So figure out what time that is, local succession planning, using profits interests, December 4th stock sales, as asset sales. I've got to get me a really nice 338H10 discussion. And December 18 QSBS, common mistakes and misconceptions. I actually had a new one come up last week that I think is pretty interesting. But anyway, let's talk about, let's talk about tax, right? OB thrice. So someone asked me why I call it OB thrice. And, and the answer is very simple. I like to make pop culture references, but I also really like to make pop culture references that are not that common, I guess. And there is a rapper named OB thrice who, who is friends, friendly, I don't know, whatever, with Eminem, if you're familiar with him. And there's an episode, an episode, there's an, there's a song that starts off with say, OB thrice real name, no gimmicks. And so I thought this would be funny because what happened is, is public law 1921, much like basically every tax bill in the last 10, 12 years has lost its name because it goes back and forth through the house and the Senate so much. And because of parliamentary and rule, parliamentarian rules, I don't know, they lose their name. So they get these really long and weird names that by the way, before like the East, this is what the names were. They were like a description of what it is. And so they didn't have these pretty names. That's what I'm going to call it. I appreciate that it's stupid, but I think it's funny. And you know, like I said, I say it so often life's short, let's have some fun. All right. All right. So we're going to talk about OB thrice changes to QSBS and R&E expensing. One thing that like, I kind of want to discuss is whether it's R&E or research experimentation or R&D research development, both 174 and 41, the tax credit actually really call it R&E. I've always historically called it R&D. I started my career at Deloitte doing our primarily doing R&D credit. So I call them R&D colloquially, but actually this is R&E. Also the deduction under 174 says expense. It says expenditure, but the credit under 41 calls it an expense. I'm probably just going to call it an expense, even though I guess technically it's an expenditure and I'm probably going to call it R&E because that's what the code says and I try to be consistent. All right. So section 1202, right, exclusion for qualifying small business stock, all changes for the stock are for stock that I'm just generally going to use the word received on or after July, 2025. This is going to create a monstrous headache. Less right now, more in like three, four, five, six, seven years. Anytime you have phase ins, phase outs, cliffs, this is the effective date, July 4th, 2025, on or after for all changes. 83B elections. This is really important. E3B election accelerates, right, if it's vested stock that needs the vest, it accelerates the vesting to the date of grant. You only have 30 days from grant anyway to make 83B elections and that's going to create a really weird situation. If you think about it, right, if you were granted something on July 3rd, then you made an A3B election. Even if you made the A3B election on July 28th, your grant date and the vesting date is July 3rd. So you get one set of rules, but if it was granted, it probably should be a statement contrary to fact. If it were granted on July 3rd, same fact that if you don't make an A3B election, by every time it vests, assume it's going to be on or after July 4th, therefore, right, you might get benefits from that or it's granted on in 2026. It doesn't really matter. Maybe after you can get the newer stuff. So the effective date is going to create some real headaches for tax professionals as is tradition with, again, tax bills over the last 10 years. So the first change, right, the aggregate gross receipt threshold, right, used to be 50 million of aggregate gross receipts gross, that being ignoring debts, right, change from 50 million to 75 million. You can grant this situation. This is a really interesting one. Let's say that on January 1st, 2025, your aggregate gross receipts, it's not gross receipts, it's aggregate gross gross asset value was 40 million. You grant some. Then on April 1st, you grant some more, but at that point, the year gross asset value was 55 million. That's not QSBS stock now, right? First one was, second one is, then you grant some more on, let's make it July 4th, all right. And now your gross asset value is 70 million. But that's QSBS again. That's going to be tough to do. That's going to be a challenge because what's going to happen is you're going to have companies that go out and come back in. And that does happen from time to time. The values do increase, decrease, but this is like forcing it on people. I don't know. I've never really thought 50 million was all that small of a company anyway. 1202 again, as I discussed in episode 17, 18, 19. By the way, if you haven't listened to the three more of the previous ones where I talk about it, I recommend doing that first. As I'm now a couple minutes into this episode, get a get a baseline of what's going on here. It's still pretty generous, pretty, pretty high. So that's going to be a challenge. The second change, the second change, the tiered exclusion via shorter holding periods. This one is really kind of interesting. Basically, I'm going to go through a couple of iterations. If you purchased, this is purchased before July 4th, 2025, I'm just going to say July 4th, we're going to assume it's 2025, gross asset limit 50 million granted and vested before July 4th, aggregate gross asset limit is 50 million purchased on or after July 4th, 2025, companies gross act gross aggregate gross asset limit, say that three times fast 75 million, then granted at any time, but vested on or after July 4th, the aggregate gross asset limit 75 million. Again, A through B elections are considered the time that it vests. So even if you were to grant it on July 1st, but then make the election, the A through B election on July 28th, you make that election as of the date of grant July 1st. So again, the 50 million not 53. Awesome. No way this can backfire. None, none whatsoever. Wonderful job. All right. The next one, again, and this is really important, holding period controls for tax, not legal. So even if it doesn't invest yet for legal purposes, because A through B election doesn't change actual vesting schedules, that doesn't matter. The third change, 15 million, it was 10 million. So this is another one, 10 versus 15 million, right? So basically the way the exclusion used to work, it used to be 10 million or 10 times the basis. Now it's 15 million or 10 times basis. Can't wait until someone comes up to me and says, "No, no, it's 15 times the basis." And it's not. But again, if it vests 12, 31, 20, 25, that, you get 15 million. But an A through B election on the grant date, 1, 1, 20, 25, exclusion amount is 10 million. So we're definitely going to run into a situation where stuff's going to get a little bit funky, not very fun, not awesome to deal with, zero stars do not recommend. Curiously, I don't know if the right word is here. A lot of stuff didn't actually change, right? Stacking stuff with non-grantor trusts, nothing, free of words said, right? So Congress knows it's there. Congress has amended the statute in a technical way, not just to clean it up. I think that gives a lot of credence to the idea that you can do stacking. The other one, the ambiguity, these are two I discussed in episode 19, the ambiguity with the exclusion for amount, generally one versus half, whether you get one, one each, or you get, you know, half each, basically, you know, what's interesting is this creates a real issue, right? Because it's either 15 million or seven half million or 10 million or five and a half. But theoretically, or five million, theoretically, if you go from, you know, some people say, okay, well, you know, it's 10 million to seven and a half each, it's not actually that big of a drop off, you know, 10 to 15, it's enough. So maybe they're splitting the baby, maybe not, you know, don't don't kill babies. That's bad. But that's the idea, right? That's what's going on. So they really didn't clean up a lot. This is going to be a mess. I actually think that this is going to get changed again sometime soon. They're going to kick up that number again. It's such a limited use, you know, I get questions about it a lot, particularly in the context of what should I do? How should I do it? What should things like that? Should I be a C corporator or go after QSBS? And I always tell people that like, look, this is a purist tolerance question, purist tolerance as much as it can be. Because what a lot of people don't realize, I don't know if it's the right way to phrase it, is that QSBS is something you're chasing, right? You're chasing, you need a C corp, you can grow for long enough. It won't be an adverse, it won't be adverse to your business to pay a whole lot of taxes because you're a C corp and that someone will be willing to buy the stock, right? That's the kick. There's so many things that have to happen. And that's, you know, that's fine. But it's definitely something to think about. All right, we're going to take a little music break, rock out a little bit, right? And we're going to talk about deduction of R&E expenditures or amortization of R&E expenditures under section 174. Okay. And we're back. So now we're talking about the deduction or amortization, I guess, of R&E expenditures under section 174. History, history is always really important. History gives great context, particularly in tax. Pre-1954, it's unclear if you were to deduct it in the current year or capitalize it over a period of time, what the period was, et cetera, et cetera. And so there's litigation, how does things go in that? So it's part of the internal revenue code of 1954. Congress enacted section 201D9 capital B, which is now section 174. It allows the taxpayer to either to either deduct it in the current year or amortize it over a period of 60 months. Pretty straightforward. This was the case for nearly 70 years in Public Law 11597 Tax Cuts and Jobs Act, TCJA. It created a ticking time bomb for tax year starting in 2022. So not necessarily, right, for '22, because if you had like a 52-53 week year, it might start at the end of '21. There's a whole variety of factors, right? What it did is it forced everyone into a amortization period for U.S.-based research and expenditures, research, and experimentation expenditures. It's going to call it R&E. You had to amortize it over 60 months, and that started mid-year, which is really interesting. More than R&E was over 180 months or 15 years. It's a heck of a time period. It became a nightmare. If you read 10Ks and your reports from public companies even really lament this, they said, "Oh, this is a slight bad look." Tax rate went from 35% to 21%. So the net net, we're pretty far ahead. But for small businesses, especially for past, man, this was a tough, this was a really tough one, because it took an expense, right? They budgeted and all of a sudden it changed, and people said, "Well, you know, they should have known. This was going to happen. It was in the bill for a couple of years." But like, that's just not how, that's not how businesses operate, right? They like consistency year-over-year. Any change is a bad change, especially one that's adverse. Not great. Oh, you know, nothing happens for a couple of years, 22, 23, 24 years go on. Enter public law, 119, 21. OB thrice, as I call it. OS, real estate. This R&E, this R&E doesn't change the foreign stuff, but US is 60 months. And that's really important. And it starts with the month that the R&E is expensed, right? So for book purposes, what year it actually was paid. So it could accelerate at 60 months, put it mid-year for the first year. So it was really half a year fought four years than half a year. So into the sixth year, this, this is a little shorter, most likely, or a little longer, kind of depends on the factors. You can elect to accelerate the amortized R&E expenses all into 2025. The 60 month amortization, like I said, also starts, this is interesting. The 60 month amortization, right? Five years for tax years that begin in 2025. So it's not quite retroactive because we're kind of in the middle, most way through, but middle 2025. I guess when they passed this bill, it was basically the dead middle point. So now people are budgeting for it. But I think it's what's going to happen is what always really happens, which is people are going to say, oh, that's cool. It saves money. Then Congress did what Congress does, which is what's the mechanism to implement all these changes, all right? And a little more and different stuff that happens. Well, IRS weeks go maybe more by the time this airs. I should say it's released. I don't hear is definitely not the right word. The IRS issued Rev proc revenue procedure 2005 2025-28. I'm going to talk about that now because the mechanics are really interesting, somewhat interesting, but really important. But first, before we get to that, let's, let's play some music. Let's rock out for a second. All right, we're back. Let's, let's talk about revenue procedure 2025-28. First off, the election requires IRS form 3115. You can elect to accelerate the amortized R&E expenses to deduct in 2025, put it all to dump everything into 25. You can also accelerate the previously advertised expenses into two years, so 25 and 26. Someone asked, why would you do that? The answer is, look, if you're taking all these expenses and you drive your income below zero, that's kind of pointless to take a loss. A lot of people, this is, you know, for example, their only source of income. Also, you know, if you have a business to pass through, it's a lot of passive owners, getting losses won't help. R&E credits, R&D credits are AMT preference items. If there, if there's a lot, if there is an income to offset them, so you may not want to just push yourself into loss, you want to net it out first. And that's really, really the reason for it, why it can be helpful. Just in general, you know, there's no, there's no reason to generate losses to carry forward. You can't carry them back anyway. So just generate the loss and put the loss in the next year, so that you have two years that are better instead of carrying it forward, have more attributes on your return, add complexity, kind of pointless, right? So anyway, if you're a small business, you can also retroactively apply work cafe. This is really important. They didn't just amend 174, if you read it now is a mess. If it's this, it's this, if it's that, it's that, if this happens, that happens, this happens, this is the catch up is that. So they created until before cafe, they created an entire other code section. They jammed it after 174 to do it. And this is just like, this is when you need to know, like maybe it's not necessary. I sort of have this conversation with someone. And I think that like the important thing to understand is we're, we're currently in year four of the five year cycle, right? So basically, they've largely evened out. I actually don't think they need to have the catch up. I think what they should have done was just let it play out over the next couple of years and take current year expensing, right? So you get these large deductions that are really going to help. I think this is just a little bit excessive. I don't think it's necessary, but I do not make rules. I definitely don't pass law much like the IRS. I don't pass the law. So, you know, while this is definitely not the IRS code, it's definitely not Matt's code, right? My code much simpler, much more straightforward. I'm going to tell you 74 would exist in the immediate deduction, but there'd be a lot more straight line and longer periods, a lot less bonus. So that's sort of how I view it. I think a lot of this except this acceleration is merely rate playing and pandering. And I don't think it's helpful. I would just have lower rates overall. That's how I do it. Anyway, that was, that was not on my notes to talk about, but here we are. So if you're a small business, you can retroactively apply cap section one, seven, four cap A, which is the immediate deduction to tax years that began in 22, 23, 24, small business, the average gross receipts under 448 C, 25 million or less, you know, it's index for inflation. It's 31 million for 2025. C also deals with when you have to go. If you're familiar with it, it's generally used when you have to go from a cash to a cruel basis taxpayer. So that's, that's where it really comes in for thinking, what, what is 448 C? I will admit that I was like, I think that's cash to a cruel question I get with some level of regularity. But yeah, that's, that's, that's what it is. You can file a superseding 2024 return within six months. So you can actually accelerate it without need to go through like an AAR procedure or an amended return for it, which is kind of a headache. I suspect that most taxpayers are just going to dump their irony expenses into 2025 and have zero tax. They're not going to want to do amended returns or AARs or anything else crazy. A lot are going to do, they're going to run some numbers in 2026 and they're going to decide if they want to do kind of half 25 and half 26. Again, you're taking 2025s expenses immediately. So I think that that's really important to sort of go through and run those numbers, you know, talk, talk to your professionals. I know a lot of tax professionals, you know, listen to this, I know that there are people who run businesses who listen to this, I get emails from you sometimes. That's kind of fascinating to me that you want to hear me talk about tax, but I appreciate it. This is definitely one where I think modeling things out is going to be helpful. I actually think this is one where you want to sort of estimate what the number is going to be. My biggest fear is just too strong of a word. My biggest concern is always when people are like, oh, we'll leave that to next year. And then you hit, you know, pass their entity, September 3rd, and you're making this decision, right? Yeah, you can do it. Do you have to amend returns? How do you do it? The superseding 2024 return, must be filed within six months of when you actually filed it. So if you, you know, extended it, you're kind of there. If it's otherwise, you're a little late on getting it done. So that's really it. I want to do this one, it's a little shorter of a one. I don't always know how long they're going to be. For one really specific reason, the music gets edited in later. So I actually don't know how long these are, but this is a little shorter of one, but I thought it'd be a good one to do. I thought it'd be interesting. And we're going to roll next one. Next one's a little more, well, probably technically less substantive, but I think it's pretty substantive mechanically. So that was the 38th episode of how tax works. Hope you learned something. Hope you enjoyed it. Back in two weeks, 39th episode, I'm going to talk about what to do if you get audited. I'm going to talk about state audits, federal audits, a few other sort of things. What happens if you get audited by municipalities, right? You know, I live in New York City, so I can get audited by the state, by federal government, by the city. I don't think the program itself audits. I think that's just New York City as a sort of general proposition. But those do exist, right? There are local income taxes that department of finance, New York City department of finance would audit on. And that kind of stuff is interesting. They're always different. They're different kind of auditors. They're looking for different things. Always a lot of factors. I hope you enjoyed this. And now let's get some music in there. Have a good one. Thank you for listening. [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [Music] [BLANK_AUDIO] [BLANK_AUDIO] [BLANK_AUDIO] [BLANK_AUDIO] Which is what's the mechanism to implement all these changes, all right? And a little more and different stuff that happens. Well, IRS, let's go, maybe more by the time this airs. I should say it's released. I don't, air is definitely not the right word. The IRS issued Revproc Revenue Procedure 2005, 2025-28. I'm gonna talk about that now because the mechanics are really interesting. It's somewhat interesting, but really important. But first, before we get to that, let's play some music. Let's rock out for a second. I'll be right back. All right, we're back. Let's talk about revenue procedure 2025-28. First off, the election requires IRS form 3115. You can elect to accelerate the amortized R&E expenses to deduct in 2025. Put it all, just dump everything in 25. You can also accelerate the previously advertised expenses into two years, so 25 and 26. Someone asked, why would you do that? And the answer is, look, if you're taking all these expenses and you drive your income below zero, that's kind of pointless to take a loss. A lot of people, this is, for example, their only source of income. Also, if you have a business to pass through, there's a lot of passive owners. Getting losses won't help. R&E credits, R&E credits are AMT preference items if there is an income to offset them. So you may not want to just push yourself into loss. You want to net it out first. And that's really the reason for it, why it can be helpful. Just in general, there's no reason to generate losses to carry forward. So you can't carry them back anyway. So just generate the loss and put the loss in the next year so that you have two years that are better instead of carrying it forward, have more attributes on your return, add complexity. Kind of pointless, right? So anyway, if you're a small business, you can also retroactively apply WarCAPA. This is really important. They didn't just amend 174. If you read it now, it's a mess. If it's this, it's this. If it's that, it's that. If this happens, that happens, this happens, this is the catch up is that. So they created it before CAPA. They created an entire other code section. They jammed it after 174 to do it. And this is just like, this is when you need to know, maybe it's not necessary. I sort of have this conversation with someone and I think that the important thing to understand is we're, we're currently in year four of the five year cycle. Right. So basically they've largely evened out. I actually don't think they need to have the catch up. I think what they should have done was just let it play out over the next couple of years and take current year expensing, right? So you get these large deductions that are really going to help. I think this is just a little bit excessive. I don't think it's necessary, but I do not make rules. I definitely don't pass law much like the IRS. I don't pass the law. So, you know, while this is definitely not the IRS code, it's definitely not Matt's code, right? My code much simpler, much more straightforward. I'm going to tell you 74 would exist in the immediate deduction. There'd be a lot more straight line and longer periods, a lot less bonus. So that's sort of how I view it. I think a lot of this except this, this acceleration is merely rate playing and pandering and I don't think it's helpful. I would just have lower rates overall. That's how I do it. Anyway, that was, that was not on my notes to talk about, but here we are. So if you're a small business, you can retroactively apply cap section one something before cap A, which is the immediate deduction to tax years that began in 22, 23, 24 small business. The average gross receipts under 448 C, 25 million or less, you know, it's index for inflation is 31 million for 2025. C also deals with when you have to go. If you're familiar with it, it's generally used when you have to go from a cash to a cruel basis taxpayer. So that's, that's where it really comes in for thinking, what, what is 448 C? I will admit that I was like, I think that's cash to a cruel question. I get with some level of regularity, but yeah, that's, that's, that's what it is. And you can file a superseding 2024 return within six months. So you can actually accelerate it without need to go through like an AR procedure or an amended return for it, which is kind of a headache. I suspect that most taxpayers are just going to dump their irony expenses into 2025 and have zero tax. They're not going to want to do amended returns or ARs or anything else crazy. A lot are going to do, they're going to run some numbers in 2026. And they're going to decide if they want to do kind of half 25 and half 26. Again, you're taking 20, 25s expenses immediately. So I think that that's really important to sort of go through and run those numbers. You know, talk, talk to your professionals. I know a lot of tax professionals, you know, listen to this. I know that there are people who run businesses who listen to this, I get emails from you sometimes. That's kind of fascinating to me that you want to hear me talk about tax, but I appreciate it. This is definitely one where I think modeling things out is going to be helpful. And I actually think this is one where you want to sort of estimate what the number is going to be. My biggest fear is just too strong of a word. My biggest concern is always when people are like, oh, we'll leave that to next year. And then you hit, you know, pass their entity, September 3rd, and you're making this decision, right? Yeah, you can do it. Do you have to amend returns? How do you do it? The superseding 2024 return must be filed within six months of when you actually filed it. So if you, you know, extended it, you're kind of there. If it's otherwise you're a little late on getting it done. So that's really it. I want to do this one. It's a little shorter of a one. I don't always know how long they're going to be. For one really specific reason, the music gets an edited in later. I actually don't know how long these are, but this is a little shorter of one. But I thought it'd be a good one to do. I thought it'd be interesting. And we're going to roll next one. Next one's a little more, well, probably technically less substantive, but I think it's pretty substantive mechanically. So that was the 38th episode of how tax works. Hope you learned something. Hope you enjoyed it. Back in two weeks, 39th episode, I'm going to talk about what to do if you get audited. I'm going to talk about state audits, federal audits, a few other sort of things. What happens if you get audited by municipalities, right? You know, I live in New York City, so I get audited by the state, by federal government, by the city. I don't think the Borough of Manhattan itself audits. I think that's just New York City is a sort of general proposition. But those do exist, right? There are local income taxes that Department of Finance, New York City Department of Finance would audit on. And that kind of stuff is interesting. They're always different. They're different kind of auditors. They're looking for different things. Always a lot of factors. I hope you enjoyed this. And now let's get some music in there. Have a good one. Thank you for listening.