Qualified Trade FAQ

Section 1202 defines Qualified Trades or Businesses in the negative, noting the types of businesses that are not eligible to issues QSBS.  

According to Section 1202(e)(3) a “qualified trade or business” is any company other than:

“Any trade or business where the principal asset is the reputation or skill of one or more of its employees, such as performance of services in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, and brokerage services. 

Any banking, insurance, financing, leasing, investing, or similar business.

Any farming business.

Any business involving the production or extraction of products, such as mining.

Any business of operating a hotel, motel, restaurant, or similar business.”

The vagueness of the phrase “performance of services” or determining whether the “principal asset” of a business comes from the skill or reputation of a particular employee can be subjective, however, some clarity has been offered by certain case rulings by the IRS.

Taxpayers can seek guidance from the IRS to determine whether their company meets the definition of a Qualified Small Business (QSB.) This would involve requesting a Private Letter Ruling from the IRS.  

A PLR is a written decision by the IRS based on the facts as stated by the taxpayer. Because a PLR is provided in response to one taxpayer’s unique circumstances, the ruling cannot be used as a precedent by other taxpayers.  Refer to this article for further details. 

Most QSBS Private Letter Rulings issued by the IRS address whether a particular company’s activities meet the definition of a “qualified trade or business.” 

To help taxpayers understand the legal thought process, the IRS publicly releases edited versions of private letter rulings, like this one released in April 2021, with identifying details omitted by the IRS. You’ll see that the letter: 

• Opens by recounting the facts about the case including the history of the company’s tax status, shareholder investments, business models, and other notable details.
• Cites any relevant tax laws and analyzes how this applies to the taxpayer’s particular situation.
• Concludes with a succinct answer to the taxpayer’s question, in this case: “was the company a qualified trade or business at the time that the taxpayer held stock in the company?” 
• Reminds the taxpayer that this ruling applies only to the specific situation in question and was determined based on facts provided by the taxpayer—if the facts were misrepresented in any way, the ruling may not apply, of course.

If you are interested in obtaining a PLR, you can consult the Revenue Procedure that is published each calendar year to read about the steps involved and the applicable fees. See the most recent publication here. 
To learn more about QSBS related Private Letter Rulings, visit our QSBS Case Law section, which includes private letter rulings and other similar regulatory updates.