Five reasons that you don’t know about tax-free stocks

Our government taxes most kinds of income. The exceptions list of tax-free income is short. One of the least known sources of tax-free income is gains on qualified small business stock ownership. Gains on qualified small business stock is completely exempt from tax. So why haven’t you heard this before? Here are five good reasons:

1) Investment advisers can’t touch it. Registered Investment Advisers are typically limited and governed by securities laws and most of these stocks are not securities as defined. That means this type of investment is in direct competition for you investment funds.

2) Most accountants and lawyers haven’t used it themselves and, generally, are not comfortable discussing the details. Without professional help, many people would understandably be afraid to go it alone. While the rules aren’t complicated, it makes sense to have an accountant and attorney involved.

3) The Tax Cuts and Jobs Act made this arrangement more feasible. That law is only a year old and many of us are still evaluating new opportunities and making adjustments.

4) Big investors aren’t interested. In general terms, this is for companies with less than $50 million capitalization. Most qualifying companies are substantially smaller. While this might still sound like a lot of money to us ordinary investors, big investors just aren’t interested in “small” position investments.

5) The law requires a 5 year holding period in order to get the tax-free status. That’s a negative for active managers more accustomed to churning a portfolio as their modus operandi. After all, who would pay an adviser who did nothing for five years?

These five reasons combine to effectively hide one of the best tax strategies available today from us. I plan to write a series of blog posts and offer public programs to raise awareness of the strategy.


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