When the Partnership Holds the Stock: QSBS in Pass-Through Structures and Why Your Role as a Partner Matters

Nov 10, 2026

By Jessica Irving Marschall, CPA, ISA AM, President & CEO, MAS LLC

Introduction

Section 1202 does not ask whether a partner is active or passive, yet the facts that answer that question shape the QSBS result in at least four places. That is the thesis of this article, and I will try to explain the ins and outs of these questions, areas where there is definitive guidance and, quite importantly, sections where there is not. For the latter, we will continue to watch for IRS memos, Tax Court decisions and professional best practices.

Since the One Big Beautiful Bill Act (OBBBA) took effect on July 4, 2025, I have written a series of articles on qualified small business stock: an initial summary of the expanded QSBS benefits in July 2025, an analysis of the Section 351 conversion wave in October 2025, a description of our QSBS eligibility and compliance consulting service line in February 2026, a discussion of the substantiation file that defends the exclusion in August 2026, and the updated QSBS Technical Implementation Guide in September 2026. Those articles largely assumed that the shareholder holds the stock directly.

In practice, an increasing share of the QSBS positions I review sit one layer removed from the shareholder. The stock is held by a venture fund organized as a limited partnership, a family LLC taxed as a partnership, an angel syndicate, or occasionally an S corporation that has invested in a separate C corporation. Lauren M. Azebu’s September 2026 feature in The Tax Adviser, “Navigating the QSBS rules in pass-through structures,” is the most thorough recent treatment of these structures, and this article builds on her analysis.

I also want to answer a question that clients have raised with increasing frequency this year, particularly after the federal appellate courts revisited the limited partner exception to self-employment tax: does it matter, for QSBS purposes, whether a partner is active or passive? The short answer is that material participation is not a QSBS requirement. The longer answer is that partner activity resurfaces in how a partner’s interest is measured, in whether the underlying business is an excluded service business, in whether a corporation’s own partnership investments count toward the active business test, and in how a partnership is converted into a corporation.

How the Exclusion Flows Through a Partnership or S Corporation

A pass-through entity can hold QSBS, and its noncorporate owners can exclude their share of the gain, but only if three conditions in Section 1202(g) are met. Section 1202(a)(1) limits the exclusion to taxpayers other than corporations, and as Christopher Fonseca noted in his December 2025 Tax Adviser item on post-OBBBA planning, partnerships, S corporations, regulated investment companies, and common trust funds may pass the benefit through to their owners when the Section 1202(g) requirements are satisfied.

As Azebu summarizes them, the three conditions are these:

1. The stock must qualify as QSBS in the hands of the entity, tested as though the entity were an individual.
2. The entity must have held the stock for at least three years for stock acquired after July 4, 2025, or more than five years for stock acquired on or before that date.
3. The owner must have held its interest in the entity continuously from the date the entity acquired the stock through the date of disposition.

The third condition is the one that most often surprises investors. A person who joins a fund or an LLC after the entity has acquired the stock cannot claim the exclusion on that stock, because Section 1202(g)(2) ties eligibility to continuous ownership of the entity interest from the acquisition date forward. Admitting a new member to an existing investment vehicle therefore gives that member no QSBS benefit on the vehicle’s existing portfolio, however the operating agreement allocates the eventual gain.

The OBBBA’s graduated exclusion schedule applies to qualifying stock acquired after July 4, 2025, whether the stock is held directly or through an eligible pass-through entity. The exclusion is 50 percent after at least three years, 75 percent after at least four years, and 100 percent after at least five years. For stock acquired on or before July 4, 2025, the prior holding-period and exclusion-percentage rules continue to apply, including the requirement that the stock be held for more than five years. For post-OBBBA stock, the non-excluded portion of gain generally remains subject to the special 28 percent capital gains rate category, with the actual tax determined under the applicable rate calculations. The taxable portion may also be subject to the 3.8 percent net investment income tax. The per-issuer limitation is applied at the eligible taxpayer level, so a partner’s qualifying gain from a fund’s sale must be considered together with other qualifying gain attributable to the same issuer.

A Clarification on S Corporations

Readers of my earlier articles will recall that stock issued by an S corporation can never be QSBS, and that an S election by the issuing corporation can jeopardize outstanding QSBS. Those statements concern the S corporation as an issuer. An S corporation can be a holder of QSBS issued by a separate C corporation, and its shareholders can exclude their share of the gain under Section 1202(g).

The holding structure works only if the S election is valid for the entire holding period. Azebu points out that if the corporation lacks a valid S election throughout that period, neither the corporation nor its shareholders can claim the exclusion on QSBS it owns. Because an S corporation that loses its election becomes a C corporation, and a C corporation is not an eligible shareholder, an overlooked second class of stock or an ineligible shareholder can quietly eliminate the exclusion. Relief for inadvertent terminations under Section 1362(f), including the streamlined procedures in Rev. Proc. 2022-19, should be pursued promptly whenever a defect is found.

The Interest-Held Cap and the Profits Interest Problem

A partner’s exclusion is frozen at the interest the partner held when the entity acquired the stock, and this is the first place where the active partner’s position differs from the passive investor’s. Under Section 1202(g)(3), an owner who later increases a percentage interest in the entity cannot exclude the incremental share of gain on stock the entity already held. The exclusion is capped at the owner’s proportionate interest on the acquisition date.

For an S corporation, measuring that interest is straightforward. The one-class-of-stock rule in Section 1361(b)(1)(D) requires identical distribution and liquidation rights, so a shareholder’s interest is simply a share count. Partnerships are another matter. Section 704(b) permits special allocations with substantial economic effect, and a partner may hold a capital interest, a profits interest of the kind addressed in Rev. Proc. 93-27 and Rev. Proc. 2001-43, or both.

Section 1202 does not define “interest,” and no regulation does either. Azebu points to the closest analog, the Section 1045 regulations, which are persuasive by analogy but are not controlling Section 1202 authority. Those regulations limit a partner’s deferrable gain to the partnership’s gain multiplied by the partner’s “smallest percentage interest in partnership capital” under Regs. Sec. 1.1045-1(d). That measure starts with the capital percentage at acquisition and is reduced for later dilutions, disproportionate distributions, and transfers, but it ignores income and loss allocations. If the IRS were to borrow that standard for Section 1202, a partner holding only a profits interest on the acquisition date could be treated as having no interest at all for purposes of the exclusion.

Why This Falls Hardest on Active Partners

Profits interests are, almost by definition, compensation for services. The general partner of a venture fund, the managing members of an operating LLC, and the key employees admitted with a carried interest are the partners who typically hold them. The limited partners who contribute cash hold capital interests. The interest-held cap therefore creates an asymmetry that is easy to miss: the passive capital partner’s QSBS share is reasonably clear, while the active partner whose economics come through a promote or carried interest faces the greatest measurement uncertainty.

The same asymmetry appears when an active partner’s share grows after the acquisition. A waterfall that shifts allocations toward the sponsor once a hurdle is cleared, or a vesting schedule that increases a manager’s percentage over time, will not increase that partner’s excludable gain on stock the partnership already holds. The economic upside is significant and must be evaluated, but the QSBS benefit stays fixed at the acquisition-date interest.

Planning Responses

Several steps can reduce the uncertainty, and all of them must be taken before the entity acquires the stock rather than at exit:

• Grant capital rather than profits interests where the economics allow. A capital interest granted in exchange for services is taxable on receipt, but it establishes a measurable interest in partnership capital on the acquisition date.
• Document capital accounts and percentage interests on each acquisition date. A roll-forward of capital and profits percentages, signed off as of each portfolio investment, is the evidence that will matter years later.
• Consider separate investment vehicles for separate acquisitions. A vehicle formed for a single portfolio company fixes the relevant interests at a known date and avoids mixing pre-admission and post-admission positions.
• Evaluate an in-kind distribution of the stock before a sale. Section 1202(h)(2)(C) permits qualifying distributions of QSBS from a partnership to an eligible partner while preserving the stock’s acquisition history and applicable holding period. However, the distribution must satisfy requirements similar to Section 1202(g), and it should not be assumed that distributing the stock eliminates a limitation arising from the partner’s ownership interest when the partnership originally acquired it. The partner’s acquisition-date interest, the partnership’s allocation provisions, and the tax consequences of the distribution should be analyzed before the transaction is implemented.

Transfers, Distributions, and Gifts

Only three kinds of transfer carry QSBS status forward under Section 1202(h)(2): a gift, a transfer at death, and a distribution by a partnership to a partner that meets requirements similar to Section 1202(g), without regard to the holding period. A recipient in one of those transfers steps into the transferor’s shoes and generally tacks the transferor’s holding period under Section 1202(h)(1).

Everything else is uncertain. Azebu observes that there is no comparable rule for a shareholder’s contribution of QSBS to a partnership or S corporation, or for an S corporation’s distribution of QSBS to its shareholders. Without a provision like Section 1202(h), those transfers carry a substantial risk of failing the original issuance requirement. Clients who want to consolidate directly held QSBS into a family partnership for management or estate planning reasons should understand that the consolidation itself may forfeit the exclusion.

Gifting Strategies Do Not Reach Entity Interests

In my August 2026 article, I described gifting QSBS to family members or non-grantor trusts as a potential means of using separate taxpayers’ Section 1202 exclusion limitations. That strategy generally depends on transferring qualifying stock itself. A gift of an interest in a partnership or S corporation that already owns QSBS does not ordinarily establish the donee’s eligibility for the exclusion on that preexisting stock, because Section 1202(g) requires the taxpayer to have held the relevant entity interest when the entity acquired the stock and continuously thereafter. The statutory gift exception under Section 1202(h) applies to qualifying transfers of the stock, not automatically to transfers of interests in entities that hold the stock.

Where a partnership owns QSBS, one potential strategy is for the partnership first to distribute qualifying stock to an eligible partner under Section 1202(h)(2)(C), followed by a gift of the distributed shares. Both transactions require independent analysis. The distribution must satisfy the statutory requirements for preserving QSBS treatment, and the subsequent gift must constitute a completed transfer for federal tax purposes. If the sale has already become sufficiently fixed, the assignment of income doctrine or step transaction principles may cause the gain to remain taxable to the donor. There is no prescribed minimum waiting period that guarantees the result. The timing, economic substance, transfer documentation, and status of negotiations or binding sale obligations must be evaluated together.

Lower-Tier Partnerships: When the Corporation Is the Partner

The active versus passive question returns in its most direct form when the qualified small business itself is a partner. Many operating companies hold a joint venture interest, a minority stake in a technology partnership, or a legacy LLC that was never folded into the corporation. Section 1202 says nothing about how those interests are treated under either the gross assets test or the active business test.

Aggregate Gross Assets

For the gross assets test, Azebu identifies two readings. The corporation could count its adjusted basis in the partnership interest, or it could look through to its proportionate share of the partnership’s assets. A look-through approach has been used in other contexts, including Section 1061 and the passive foreign investment company asset test, but it becomes difficult to apply when the corporation’s interests in capital, profits, and losses differ. Until guidance is issued, the conservative course is to compute the test both ways at each issuance and to keep both computations in the file.

The Active Business Test

The active business test is where the corporation’s role as a partner matters most. Section 1202(e)(5) provides a look-through rule for subsidiary corporations in which the issuing corporation owns more than 50 percent of the combined voting power or value, allowing the subsidiary’s assets and activities to be attributed to the parent for purposes of the active business requirement. Separately, Section 1202(e)(4) limits the amount of stock or securities in other corporations that a qualified small business may hold, generally disqualifying a corporation when more than 10 percent of its net asset value consists of such holdings outside the qualifying subsidiary exception. Neither provision expressly establishes how partnership interests held by the issuing corporation should be treated for purposes of the active business test.

Azebu draws on two bodies of authority arising under other Code provisions. They are useful analogies rather than established Section 1202 safe harbors, and each asks, in substance, whether a corporate partner is active or passive:

• Section 355 active trade or business. In Rev. Rul. 92-17 and Rev. Rul. 2007-42, the IRS treated a corporate partner as conducting the partnership’s business if it owned a meaningful interest (at least 20 percent) and performed active and substantial management functions through its own officers or employees, or if it owned a significant interest (at least 33 1/3 percent) regardless of its activities.
• Continuity of business enterprise. Sec. 1.368-1(d)(4)(iii)(B) uses a similar framework, attributing a partnership’s business to the issuing corporation through a significant interest or through active and substantial management functions.

Her conclusion, which I share, is that look-through treatment is most defensible when the corporation holds a large interest and materially participates in managing or operating the partnership’s business. Under those facts, the partnership interest looks like a component of the corporation’s own operations rather than a passive investment. The converse deserves equal emphasis: a small, passive partnership interest held by the corporation risks being treated as an investment asset, and assets that do not qualify as used in an active qualified trade or business may prevent satisfaction of the 80 percent test.

The practical lesson is that a corporation’s management role in a lower-tier partnership should be documented with the same care that an individual partner uses to document material participation. Board seats, officer appointments, management agreements, and the names of corporate employees who run the partnership’s operations belong in the QSBS file alongside the annual active business analysis.

Active Versus Passive Partners: Where the Law Stands in November 2026

The courts have now largely converged on a functional definition of “limited partner,” which makes a partner’s actual role, rather than its state-law label, the controlling fact. That development matters to QSBS planning because the same facts are recorded once and read under several Code sections.

In my December 2025 article, Partnership Classification Switching and Self-Employment Tax, I described the three regimes that classify partners. Section 469 asks whether a partner materially participates, using the seven tests of Temp. Regs. Sec. 1.469-5T. Section 1402(a)(13) excludes a limited partner’s distributive share, other than guaranteed payments for services, from self-employment tax. Proposed Regs. Sec. 1.1402(a)-2, issued in 1997 and never finalized, would deny limited partner status to a partner with personal liability, authority to contract for the partnership, or more than 500 hours of participation. I relied on Renkemeyer, Campbell & Weaver, LLP v. Commissioner, 136 T.C. 137 (2011), and Rev. Rul. 69-184 for the principle that substance controls over the state-law label, and I warned against claiming material participation in loss years and limited partner status in income years.

The appellate courts spent much of 2026 testing that principle. The table below summarizes the decisions, newest first.

Date	Case	Court	Standard for “limited partner”
Sept. 17, 2026	Soroban Capital Partners LP v. Commissioner	Second Circuit	Affirmed the Tax Court. A limited partner may not run, manage, or control the partnership’s business, although providing some services is not by itself disqualifying.
Aug. 12, 2026	K Alain, L.L.L.P. v. Commissioner (formerly Sirius Solutions)	Fifth Circuit, on panel rehearing	Withdrew the January opinion. A limited partner is one who plays no significant role in managing or running the business. Remanded to apply that standard.
Jan. 16, 2026	Sirius Solutions, L.L.L.P. v. Commissioner	Fifth Circuit	Held that any state-law limited partner with limited liability qualified. Opinion later withdrawn.
Dec. 2024	Denham Capital Management LP v. Commissioner, T.C. Memo. 2024-114	Tax Court	Applied the Soroban functional analysis. Appeal pending in the First Circuit.
2023	Soroban Capital Partners LP v. Commissioner, 161 T.C. 310	Tax Court	Required a functional inquiry into the partner’s role rather than reliance on state-law status.

The Second Circuit itself observed that there appears to be little practical difference between its standard and the Fifth Circuit’s revised test, and the government has argued as much in the pending appeals. The distinction between the two formulations should still be respected, because the opinions are similar but not identical. The appellate developments remain subject to further procedural developments and do not resolve every question concerning the limited partner exception. The Fifth Circuit denied K Alain’s petition for rehearing on October 30, 2026, so the case returns to the Tax Court unless the taxpayer seeks Supreme Court review, and Denham remains before the First Circuit. Neither opinion resolves whether members of LLCs and limited liability partnerships can qualify for the exception if they meet the functional standard.

For present purposes, the important point is not the self-employment tax outcome. It is that every circuit to rule has now looked through the label to what the partner actually does: who manages, who hires and fires, who generates the revenue, and how much time each partner devotes to the business. That factual record is created for Section 1402 and Section 469 purposes, and it will be available to anyone examining the same partners under Section 1202.

Where Partner Activity Does and Does Not Affect QSBS

Material participation is not a condition of the Section 1202 exclusion, and a purely passive limited partner in a venture fund is exactly the investor Congress had in mind in 1993. The legislative history cited by Azebu describes the goal as rewarding investors who put capital at risk in new ventures and small businesses. The table below sets out how a partner’s activity level interacts with each regime that touches a QSBS position held through a partnership.

Regime	What “active” means there	Effect on a QSBS position held through a partnership
Section 469 (passive activity losses)	Material participation under any of the seven tests in Temp. Regs. Sec. 1.469-5T	None directly. Material participation is not a Section 1202 requirement, and a passive investor can claim the exclusion under Section 1202(g).
Section 1402(a)(13) (self-employment tax)	Running, managing, or controlling the business (Soroban, K Alain)	None on the stock gain itself. Gain on the sale of a capital asset is excluded from net earnings from self-employment under Section 1402(a)(3), whether the partner is general or limited.
Section 1411 (net investment income tax)	Material participation generally does not remove gain from the sale of C corporation stock from net investment income merely because the shareholder actively operates the corporation.	Gain excluded from gross income under Section 1202 is generally excluded from net investment income. The non-excluded portion may be subject to the 3.8 percent NIIT if the taxpayer meets the applicable income thresholds. For stock eligible for the post-OBBBA 50 percent or 75 percent exclusions, the combined maximum federal rate on total qualifying gain may be approximately 15.9 percent or 7.95 percent, respectively, assuming the taxable portion is subject to both the 28 percent rate and the NIIT. Those percentages are illustrations, not universal effective tax rates.
Section 1202(g) (flow-through)	Not a factor, but active partners usually hold profits interests	Indirect and significant. The interest-held cap is measured on the acquisition date, and a profits interest may count for little or nothing.
Section 1202(e)(3) (excluded businesses)	Partners whose personal services generate the revenue	Indirect and significant. A business built on partner services may be an excluded service business or fail the reputation or skill test after conversion.
Section 1202(c)(2) and (e) (active business test)	The corporation’s own role as a partner in a lower-tier partnership	Direct. A corporation that actively manages a substantial partnership interest has the strongest case for look-through treatment.

Three observations follow from the table.

First, an active partner gains no QSBS advantage from being active, and a passive partner suffers no disadvantage. Clients sometimes assume that the hours logged for passive loss purposes also strengthen a QSBS position. They do not. What matters at the partner level is the date the interest was acquired, its continuity, and its size.

Second, the facts that make partners active are often the facts that disqualify the business. It is not a coincidence that the leading self-employment tax cases involved a law firm (Renkemeyer), a business consulting firm (Sirius Solutions), and an investment manager (Soroban). Law, consulting, financial services, and investing all appear on the excluded list in Section 1202(e)(3). When a partnership’s revenue depends on the personal services of its partners, the same evidence that establishes those partners as active for Section 1402 purposes can also suggest that the principal asset of the business is the skill or reputation of its people. Active founders or employees do not, by themselves, establish that a corporation’s principal asset is their reputation or skill, however, so the statutory excluded categories and the actual revenue-generating activities should be analyzed separately. As I explained in the August 2026 article, the distinction that carries a software company through that test is that it sells a product rather than the services of its employees, and the facts supporting that distinction should be documented at issuance. And if I may opine, as a CPA owning an accounting firm, we would like Congress to reassess the SSTB restrictions for QSBS and QBI…but I digress.

Third, one record will be read three ways. Partnership agreements, time records kept for Section 469, Schedule K-1 classifications for Section 1402, and the QSBS substantiation file all describe the same people and the same business. My December 2025 article warned that classification switching between loss years and income years invites challenge. The same discipline applies across regimes. A file that describes the founders as passive investors for self-employment tax purposes, active participants for passive loss purposes, and something else again in the QSBS analysis is a file that will not hold up well under examination.

Converting a Partnership with Active Partners Into QSBS

Partnership interests are never QSBS, but a properly executed conversion can produce newly issued stock that qualifies, and the active partners are usually the ones whose positions need the most attention. Startups often begin as LLCs precisely so that early losses flow through to the founders, and many of those founders deduct the losses on the strength of material participation. When the business is ready to raise outside capital or anticipates an exit, the conversion follows.

Form and Holding Period

Rev. Rul. 84-111 recognizes three forms of conversion, and the form chosen controls the tax consequences. In an assets-over transaction, which is also the deemed form of a check-the-box election, the partnership transfers its assets to a new corporation and distributes the stock to its partners. In an assets-up transaction, the partnership distributes its assets to the partners, who contribute them to the corporation. In an interests-over transaction, the partners contribute their partnership interests directly. I walked through the mechanics of each in the October 2025 conversion article and again in the September 2026 guide.

Azebu concludes that each conversion form appears capable of satisfying the original issuance requirement, although Section 1202 does not expressly address all three partnership conversion structures. In an assets-over conversion, the partnership initially receives the corporate stock, and the subsequent distribution to its partners may qualify for the preservation rules of Section 1202(h)(2)(C). In an assets-up or interests-over conversion, the former partners receive newly issued stock in exchange for contributed property. For Section 1202 purposes, the holding period generally begins when the corporation issues the stock, actually or by deemed transaction. In an assets-over conversion, an eligible partner may include the partnership’s holding period in the newly issued stock under Section 1202(h)(1), but the partner’s earlier holding period in the partnership interest does not itself count toward the QSBS holding-period requirement. Section 1202(i)(1)(B) also provides a special basis rule for contributed property, under which the stock’s basis for Section 1202 purposes cannot be less than the fair market value of the exchanged property. Consequently, appreciation attributable to the business before conversion generally does not qualify for exclusion, and the fair market value of contributed property must be considered in applying the issuer’s aggregate gross assets limitation.

Issues Specific to Active Partners

• Service partners and the Section 351 control test. Stock issued for services does not count toward the 80 percent control requirement of Section 368(c), and it is taxable compensation under Section 83. A partner who is being brought into the corporation for future work, rather than for property contributed, should be identified and handled separately so that the transferor group still has control.
• Profits interests at conversion. The treatment of outstanding profits interests requires a review of the partnership agreement, distribution waterfall, capital accounts, and the economic rights attached to each interest. In an assets-over conversion, the partnership receives the newly issued corporate stock and distributes it to its partners as part of the liquidation. A profits interest with no current liquidation value may receive little or no stock, while an interest that has participated in appreciation may have substantial value. However, the stock allocation must follow the applicable legal and economic arrangements, and liquidation value alone does not resolve every profits-interest issue. Where appropriate under the partnership agreement and Section 704(b) principles, capital accounts should be adjusted to reflect fair market value before the conversion. The resulting stock ownership, any compensatory elements, and the applicable Section 351 and Section 83 consequences should be separately documented.
• The excluded business review. Before converting a business whose revenue depends on partner services, the business model should be tested against Section 1202(e)(3). A consulting practice does not become a qualified trade or business by changing its tax classification.
• The shift from self-employment tax to wages. After conversion, active founders become employee-shareholders paid through payroll, and the limited partner exception debate ends for post-conversion income. Restricted stock subject to a substantial risk of forfeiture should be evaluated promptly for a Section 83(b) election, taking into account the 30-day filing deadline, valuation, forfeiture risk, and the effect on the QSBS holding period. Fully vested founder stock received for contributed property requires no election at all, as I explained in August.

The Substantiation File for Pass-Through Holders

The exclusion belongs to the taxpayer who can prove it, and a pass-through structure adds a layer of facts that must be proven. The corporate-level and shareholder-level file I described in the August 2026 article still applies in full. When the stock is held through an entity, the following items should be added at the entity level:

• Acquisition record. The date, consideration, and share count for each QSBS acquisition by the entity, with the issuer’s confirmation of original issuance.
• Interest snapshot. Each owner’s capital percentage, profits percentage, and capital account balance as of each acquisition date, prepared from the partnership agreement in effect on that date.
• Continuity log. A record of every admission, withdrawal, transfer, and redemption of entity interests from each acquisition date through disposition, so that Section 1202(g)(2) continuity can be demonstrated owner by owner.
• Governing documents by version. Every version of the partnership or operating agreement, with the effective date of each amendment to allocations, waterfalls, or vesting.
• S election evidence. For an S corporation holder, the accepted Form 2553, shareholder consents, evidence of a single class of stock, and any relief obtained under Section 1362(f).
• Distribution and gift records. For stock distributed under Section 1202(h)(2)(C) and later gifted, the distribution date, the gift date, the donee, and evidence that no binding sale agreement existed at the time.
• Section 1045 elections. Any rollover elections made by the entity or by eligible partners, with the replacement stock acquisition dates.
• Partner role documentation. Time records and role descriptions that are consistent with the positions taken on Schedules K-1 for self-employment tax and with any material participation claims.

Where the qualified small business is itself a partner in a lower-tier partnership, the corporate file should also hold the ownership percentages, management agreements, board or committee seats, and the names of the corporate employees who manage that partnership’s operations, so that look-through treatment under the active business test can be supported. The annual attestation letter that I recommend for directly held stock has a natural counterpart here: an annual letter from the fund or LLC to its owners confirming each owner’s acquisition-date interest in each QSBS position.

Conclusion

Holding QSBS The courts’ 2026 decisions on the limited partner exception reinforce a principle that runs through all of this work. Labels do not control; facts do. A partner’s actual role, a corporation’s actual management of its partnership investments, and the actual nature of the business are what an examiner will test. The planning that captures the exclusion is the same planning I have described throughout this series: structure correctly before the entity acquires the stock, document interests and roles contemporaneously, and keep one consistent record across every regime that reads it.

MAS LLC’s QSBS Eligibility Evaluation and Ongoing Compliance engagements now include a pass-through review covering entity-level holding, interest measurement, and lower-tier partnership analysis. To discuss a fund, family LLC, or S corporation that holds or expects to hold QSBS, contact our office.

About the Author

Jessica Irving Marschall, CPA, ISA AM, is President and CEO of MAS LLC, a tax advisory and consulting firm in Fredericksburg, Virginia. With more than 26 years of experience in tax advisory, business consulting, and appraisal services, she specializes in QSBS planning, Section 351 transfers, and corporate restructuring. She can be reached at Info@MarschallTax.com or (414) 217-0147.

Disclaimer

This article is provided for general informational purposes only and does not constitute legal or tax advice. The application of tax law to specific situations requires analysis of particular facts and circumstances. Readers should consult with qualified legal and tax advisors before taking action based on the information contained herein. The appellate developments discussed above remained subject to further proceedings as of the date of this article.

Sources

Primary reference

• Lauren M. Azebu, J.D., “Navigating the QSBS rules in pass-through structures,” The Tax Adviser (September 30, 2026)

Related articles by Jessica I. Marschall, CPA

• QSBS Technical Implementation Guide Updated September 2026 (September 17, 2026)
• Proving the Exclusion: QSBS Requirements and the Substantiation File That Defends Them (August 15, 2026)
• QSBS Eligibility Evaluation and Ongoing Compliance Consulting (February 22, 2026)
• Partnership Classification Switching and Self-Employment Tax (December 6, 2025)
• The C Corp Conversion Rush: How Section 351 Tax-Free Transfers and Enhanced QSBS Benefits Are Driving Business Entity Transformations (October 3, 2025)
• The One Big Beautiful Bill Act: Expanded QSBS Benefits and Pro-Business Tax Reforms (July 10, 2025)

Other professional literature

• Christopher Fonseca, CPA, “Revisiting Sec. 1202: Strategic planning after the 2025 OBBBA expansion,” The Tax Adviser (December 31, 2025)
• Ryan Nance, CPA, “QSBS gets a makeover: What tax pros need to know about Sec. 1202’s new look,” The Tax Adviser (November 30, 2025)

Limited partner exception developments

• Kirkland & Ellis LLP, Second Circuit Affirms Tax Court in Soroban (September 18, 2026)
• Kirkland & Ellis LLP, Fifth Circuit Withdraws Initial Sirius Solutions Opinion (August 14, 2026)
• Proskauer Rose LLP, Fifth Circuit Withdraws Sirius Solutions Opinion and Adopts New “Significant Role” Standard (August 2026)
• McDermott Will & Schulte, client alert on Soroban and the K Alain en banc petition (2026)
• Faegre Drinker Biddle & Reath LLP, Fifth Circuit Decision Undermines IRS Position on Self-Employment Tax (March 5, 2026)
• Sullivan & Cromwell LLP, November 9 Tax Policy Update (November 9, 2026), reporting the October 30, 2026 denial of rehearing in K Alain