Can Insurance Agencies Qualify for Section 1202 QSBS? Understanding Recent IRS Guidance

Section 1202 and the Excluded Business Categories

Section 1202 of the Internal Revenue Code allows founders and investors to exclude significant gains from the sale of qualified small business stock (QSBS). To qualify, the issuing corporation must meet an active business requirement and cannot be primarily engaged in certain excluded fields such as health, law, accounting, consulting, finance, brokerage services or insurance. Because insurance and brokerage services appear on the excluded list, many assume that insurance agencies and similar service providers can never qualify for QSBS.

What the 2021 Private Letter Ruling Said

In 2021 the IRS issued Private Letter Ruling (PLR) 202114002, which addressed a corporation operating an insurance agency. The company sold policies on behalf of insurance carriers and provided administrative services such as claims reporting and compliance assistance. The IRS concluded that these activities were not “brokerage services” or “insurance” as that term is used in Section 1202. The ruling distinguished between a business that merely matches buyers and sellers and one that delivers tangible services and value to customers. Under this analysis an insurance agency that goes beyond simple matchmaking can potentially be a qualified trade or business.

A Broader Interpretation in 2022

Later that year the IRS Chief Counsel issued CCA 202204007 involving a tech-enabled real estate platform. The memo took a much broader view of the term “brokerage services,” finding that a company acting as an intermediary for property rentals was disqualified even though it provided technology and payment processing. The memo argued that “brokerage” should be interpreted expansively to limit QSBS eligibility. This position has not been adopted by courts or Congress, but it shows that the IRS may scrutinize businesses that facilitate transactions without adding substantive services or assets.

So Is PLR 202114002 Still Good Law?

PLRs are binding only on the requesting taxpayer, but they signal how the IRS views a set of facts. As of this writing there are no court cases or statutes overruling PLR 202114002. The business-friendly approach in that ruling still stands, although the subsequent Chief Counsel memo suggests that borderline cases will receive heightened scrutiny. The upshot is that an insurance agency can potentially qualify for QSBS if it delivers meaningful operational substance – such as administrative services, systems and technology beyond simple matchmaking – but the same facts could be viewed differently by the IRS in the future.

Key Takeaways for Founders and Investors

• Document your value-add: If your company is in a traditionally excluded field, highlight operations, technology or services that go beyond pure intermediary functions.
• Expect case-by-case analysis: The IRS looks at the specific facts. Two businesses with similar labels may be treated differently based on how they operate.
• Stay current: The IRS is working on additional guidance for Section 1202. Future regulations may clarify or narrow the interpretation of excluded fields.

How We Can Help

Our firm advises founders and investors on structuring companies to meet QSBS requirements and on documenting eligibility. We also offer a comprehensive 1202 Confirmation Service where we review corporate history, business activities and transactions to give you confidence that your stock qualifies for the QSBS exclusion.

For more information, contact Joe Wallin at wallin@carneylaw.com.