What is a Qualified Small Business (QSB)?
Until 12/21/2012, a QSB in California was a small company started and operated in the state that met certain requirements to be deemed a QSB. The requirements and qualifications for being deemed a QSB are found in the California Revenue and Taxation Code Section 18152.5. Please click here to view an article that provides a good overview of the QSB requirements and limitations before the recent changes
What is the Qualified Small Business tax exclusion / deferral?
Prior to the recent action, when a stockholder in a QSB sold their investment after holding it for at least five years, they could use the exclusion to reduce their tax liability by 50% (up to certain limitations) or defer 100% of their taxes if the investment proceeds from the QSB sale were re-invested into another QSB (again, subject to certain limitations). Please click here to view an article that details those limitations.
What Changed on December 21, 2012?
On December 21, 2012, the Francise Tax Board issued a notice that cancelled the Qualified Small Business tax exclusion and deferral going forward, as well as retroactively going back to 2008. Click here to read their notice.
Why did the FTB make this change?
A California resident previously challenged in court whether one of the qualifications for inclusion in the QSB program was constitutional under the Commerce Clause. In an appellate court decision, the court ruled that the restriction did violate the Commerce Clause. As a result, the FTB took their action in December 2012. Click here to read an analysis of the appellate court ruling. Click here to read the ruling itself.
Why retroactively?
The FTB has stated that the retroactive application was a legal way to proceed given the court’s ruling. In a published article in the San Diego Union Tribune, an FTB spokesperson has been quoted as saying, “the agency’s legal division researched case law, legislative intent and what was done in similar situations in determining that this was the best course of action going forward.” However, we feel that the retroactive nature of the FTB’s action is harmful to business owners and investors, will serve to drive entrepreneurs away from the State, and was the wrong way to react to the underling court decision.
Who does this affect?
Anyone who owned stock, sold that stock after five years, and then claimed the QSB exclusion or deferral on or after January 1, 2008 will be affected. The FTB has said that taxpayers should either file amended returns for those periods or wait to receive a notice from the FTB stating the amount of retroactive tax now due. Published media reports have said that over 2,500 taxpayers will be affected for a total of over $120 Million. We believe these numbers will actually be much higher.
Is it true that the FTB is also charging interest on the retroactive taxes?
Yes, affected taxpayers will not only have to pay the retroactive tax bills, they will have to pay interest on the amount they owe.
Has the FTB issued any further information about this action?
You can review the FTB page and their FAQ section by clicking here.
Does this California action affect the federal QSB program?
No, this action has no bearing on the IRS / federal QSB program. In fact, as part of the recently passed “fiscal cliff” bill, the federal QSB program was substantially expanded to better incentivize entrepreneurs and investors. You can read more about that by clicking here.
If I’m affected by this action, what should I do?
First, contact your legal counsel and accountant to discuss the particulars of your situation and decide how best to proceed. If you are interested in working with other affected taxpayers to try to have this action amended, changed, or reversed, we’d like to have you on our team. Please complete the form on the right side of the page or feel free to contact us at CABusinessDefense@gmail.com or 415-952-7640.