Complexity Surrounding the $50M Gross Asset Test
At first glance, it might seem like the $50M Gross Asset Test is simple, but the reality is that in certain circumstances, it can be much more complex. For example, if a financing round has multiple closings, part of the stock issued during the round may qualify as QSBS, while some of it may not. To understand this complexity, let’s take a look at
- The QSBS requirement
- “Rolling” closing dates
- Any key questions
Section 1202(d)(1)(B) requires:
that “aggregate gross assets” of a qualified small business immediately after the issuance (determined by taking into account amounts received in the issuance) not exceed $50,000,000.
What happens if a financing round has multiple closings where the aggregate raise is greater than $50M, but at the time of the earlier closings the company had less than $50M in aggregate gross assets?
Before we can answer that question, we must look at the definition of rolling closing dates.
What are Rolling Closing Dates?
For cash-strapped start-up organizations, rolling close dates are a necessity. Imagine you are a start-up organization, working to raise $10 million. You get good news early on in the process and secure a $3M commitment from a venture capitalist.
Most start-up organizations simply don’t have the luxury of waiting to close the round until the entire target amount has been raised. You need that $3M and you need it now. So you arrange for a series of rolling closing dates.
Rounds will generally (although not always) close within 90 days of the first investment. An early stage investor is making a commitment to the organization, regardless of whether additional dollars are raised.
So, in the event of rolling start dates, what should you look for and what are key questions to consider in validating and demonstrating that your shares were acquired in an earlier closing in a financing round?
First, you will need the company to validate that there were multiple closings (i.e. “rolling closing dates”) during the round.
Second, you need to verify that the “early closings” were actually closings (i.e. funding exchanged for securities) and not “commitments” whereby the funding would be provided if/when the rest of the round is raised.
Third, you have to demonstrate that securities were issued prior to the other shares from the round.
Finally, you have to prove that there weren’t any contingencies related to the share issuance, such that the funds would be returned if the remaining capital was not able to be raised.
This article does not constitute legal or tax advice. Please consult with your legal or tax advisor with respect to your particular circumstance.