Delaware follows the section 1202 100% tax exclusion on capital gains from the sale of QSBS. Therefore, capital gains on the sale of QSBS will not only be excluded from federal income taxes, but also state income taxes if all of the guidelines are followed. Also, The state of Delaware offers an Angel Investor Job Creation Tax Credit to stimulate the startup ecosystem in Delaware. What is the Delaware Angel Investor Job Creation Tax Credit?
Federal QSBS Exclusions and State Tax Implications
Allowing capital gains tax exclusions for Qualified Small Business Stocks (QSBS) encourages investment in US small business. QSBS laws help provide capital for these businesses while offering a savvy tax strategy for investors who want to minimize capital gains taxes.
Investors who hold qualified small business stock for at least 5 years can exclude up to $10,000,000 or more of their recognized capital gains from their taxable income if certain criteria are met.
Each state has its own treatment of QSBS gains at the state income tax level. There are three ways in which states typically address the exclusion.
- Some states fully conform to the Federal QSBS guidelines, and therefore allow a full exemption if the stock meets the Section 1202 QSBS criteria. States conform to the federal tax code on either a static or rolling basis. “Static” conformity means the state starts conforming to the Internal Revenue Code as of a specific date. “Rolling” conformity means that the state adopts IRC changes as they occur. Alternatively, certain states do not have state income taxes and therefore there is no QSBS implication at the state level.
- Some states partially conform to the Federal QSBS guidelines, whereby the capital gains from QSBS are exempt if additional criteria beyond the Federal guidelines are met, such as only allowing exemptions if the QSBS gains were from a company doing business in that state.
- Lastly, certain states do not allow any capital gains exclusions for QSBS.
Delaware QSBS Exemptions
Delaware follows the Section 1202 100% tax exclusion on capital gains from the sale of QSBS. Therefore, capital gains on the sale of QSBS will not only be excluded from federal income taxes, but also state income taxes if all of the guidelines are followed.
Delaware follows a “Rolling” conformity–as stated in the previous paragraphs. Under §1222(e), a nonresident shareholder in a qualified business should not constitute income derived from sources within Delaware, nor a net loss of the corporation should be recorded as a loss or deduction connected with sources within Delaware. See 57 Del. Laws, c. 737, § 1222(e). Delaware, on the Corporate level, does conform to section 1202 federal treatment of capital gains and losses under Del. Code Ann. tit. 30, § 1903. The state, on the Individual level, also conforms to federal partial exclusion for gain from certain small business stock. Del. Code Ann. tit. 30, § 1105.
Delaware Capital Gains Tax Rates
Delaware taxes capital gains as income. Tax rates are the same for every filing status. Tax rates range from 0% for income under $1,999 up to 6.6% for income $60,000 or higher.
In comparison, federal capital gains tax rates only have 3 brackets for single taxpayers which are:
- 0% for $0 to $39,375
- 15% for $39,376 to $434,550
- 20% for $434,551 or more
Entrepreneurship in Delaware
Individuals interested in the route of entrepreneurship and business owners seeking growth can look to the Delaware Division of Small Business for one-on-one assistance and counseling. Their experienced regional business managers can help with navigating government processes, connecting entrepreneurs with resourceful organizations, and accessing capital.
Delaware Prosperity Partnership boasts the First State’s supportive entrepreneurial ecosystem as one of the benefits that promote innovation within the state. The state is home to some of the biggest names in business across all of the major industries in Delaware. They host top-performing incubators, co-working spaces and are centrally located amongst some of the nation’s top universities.
Made by Tribe announced Delaware Emerging Technology Center as the state’s leading Startup Incubator with it’s “uniquely all-digital resource center.”
According to Delaware Prosperity Partnership, among other industries, the following industries in particular thrive in the state:
- Science and Technology
- Business and Financial services
- Food and Agriculture
- Manufacturing and Logistics
- Education and Healthcare
Delaware Tax Credits other than QSBS
The state of Delaware offers an Angel Investor Job Creation Tax Credit to stimulate the startup ecosystem in Delaware. The tax credit is 25% of investments in qualified businesses with an annual cap of $250,000 for married couples filing jointly and $125,000 for individuals. Also, there is a $500,000 cap for tax credits awarded over all calendar years for one qualifying business. Read more about the qualifying guidelines. See also Del. Code Ann. tit. 30, § 1116.
Delaware Opportunity Zones
Delaware is home to approximately 25 Opportunity Zones.
Opportunity Zones (OZ) were created to help economically distressed areas by giving investors preferential tax treatment with new investments in these “specified” areas. Similar to QSBS, if the investment meets eligibility criteria and is held for at least 5 years, the investor can defer or be exempted from capital gains taxes (i.e. if held for at least 5 years, the taxpayer can exclude 10% of the gain and the percentage increases (or “steps up”) to 15% after 7 years).
Opportunity Zone investments can be in the stock of an OZ Qualified Business, an OZ partnership interest or an OZ business property.
To be a Qualified Opportunity Zone Business, the business must meet requirements such as at least 50% of the business’s total gross income being derived from within the Opportunity Zone. To learn more about Opportunity Zone qualifications, please refer to Opportunity Zones and QSBS article.
Under the Tax Cuts and Jobs Act of 2017, 26 USC 1400Z-2, Delaware made Opportunity Zones, is also home to the associated tax relief incentives that accompany these zones which are effective for tax years beginning on or after December 31, 2017. Refer to this mapfor the Opportunity Zones in the state and here for all Opportunity Zones in the United States.
Some examples of Opportunity Zones in Delaware include:
- Technology Start-Ups
- Industrial Options
- Urban Business Options
See more at Delaware.gov.
This article does not constitute legal or tax advice. Please consult with your legal or tax advisor with respect to your particular circumstance.