Testing company was a qualified trade or business for Section 1202

Plain-English summary

A founder asked whether a company's redacted testing activity was a qualified trade or business for the Section 1202 exclusion for gain on qualified small business stock. The company performed tests ordered by customers' physicians and issued reports, but it did not diagnose customers, give medical advice, or provide treatment. Its employees followed proprietary procedures without independent judgment, and its contracted medical directors did not interact with customers or provide care on the company's behalf. The IRS ruled that the activity was not a disqualified health-services business and was not a business whose principal asset was employee reputation or skill. The ruling did not decide whether the stock or the taxpayer satisfied Section 1202's other requirements.

Ruling snapshot

• Question: Was the company's redacted testing activity a qualified trade or business rather than a disqualified health-services or employee-skill business?
• Outcome: Approved as to the company's trade or business, with no ruling on other Section 1202 requirements
• Key authorities: IRC §§ 1202(a), 1202(c), 1202(e)

Full text (IRS public release)

 Internal Revenue Service                                 Department of the Treasury
                                                          Washington, DC 20224

 Number: 202418001                                        Third Party Communication: None
 Release Date: 5/3/2024                                   Date of Communication: Not Applicable
 Index Number: 1202.00-00
                                                          Person To Contact:
 ----------------                                         ---------------------, ID No. -----------------
 -------------------------                                Telephone Number:
 -----------------------------------------                --------------------
                                                          Refer Reply To:
                                                          CC:ITA:B04
                                                          PLR-115503-23
                                                          Date:
                                                          February 02, 2024




                                                 LEGEND

 Taxpayer       = ------------------------------------

 Company = ----------------------------------

 Year 1         = -------

 x              = -----------------


Dear --------------:

This is in response to a letter sent on your behalf by your representatives requesting a
ruling that gain from the sale of Taxpayer’s stock in Company qualifies for partial
exclusion of gain under § 1202(a)(1) of the Internal Revenue Code (Code) because
Company is a qualified trade or business as defined in § 1202(e)(3) and Company was
not engaged in a “trade or business involving the performance of services in the fields of
health …” within the meaning of § 1202(e)(3)(A).

This letter ruling is being issued electronically in accordance with Rev. Proc. 2024-1,
2024-1 I.R.B. 1. A paper copy will not be mailed to Taxpayer.

                                                  FACTS

Taxpayer was a founder of Company, a C Corporation, in Year 1. Taxpayer has owned
stock in Company since Year 1. Since its formation, the Company has operated as an
independent facility performing x.

Company provides x to customers based on orders from the customers’ physicians.
The order specifies the type of test required and provides basic information about the
customer. Company may not change or supplement the order. Company’s employees
PLR-115503-23                                   2

use specialized equipment and software and follow specific Company procedures to
conduct x. At the conclusion of x, Company prepares a report for a customer’s
physician. Further, customers cannot request x directly from Company, and Company
cannot diagnose customers or provide medical advice to customers.

Company’s employees exercise no independent judgment, as all employee actions are
guided by proprietary procedures that Company has developed. Employees receive
training on Company’s equipment, software, and other proprietary procedures.
Company has no education or experience requirements for new hires. Any skills or
certifications that employees acquire at Company are not transferrable to other
employers.

In addition, Company contracts with several physicians to serve as medical directors.
As medical directors, the physicians help develop Company’s policies and proprietary
protocols, review quality assurance data, and review incoming orders to ensure that
Company can accommodate requested tests. The medical directors do not interact with
customers, and they provide no diagnoses, medical advice, or treatment on Company’s
behalf.

                                     APPLICABLE LAW

Section 1202(a)(1) of the Code provides that in the case of a taxpayer other than a
corporation, gross income does not include 50 percent of any gain from the sale or
exchange of qualified small business stock held for more than 5 years.

Section 1202(a)(3) provides that in the case of qualified small business stock acquired after
February 17, 2009, and on or before September 27, 2010, the exclusion is 75 percent.

Section 1202(a)(4) provides that in the case of qualified small business stock acquired after
September 27, 2010, the exclusion is 100 percent.

Section 1202(c)(1) provides that the term ‘qualified small business stock’ means any stock
in a C corporation which is originally issued after the date of enactment in 1993 if as of the
date of issuance, such corporation is a qualified small business and except as otherwise
provided, such stock is acquired by the shareholder at its original issue in exchange for
money or other property (not including stock) or as compensation for services.

Section 1202(c)(2) provides that stock in a corporation is not treated as qualified small
business stock unless during substantially all of the taxpayer's holding period for such
stock, the corporation meets the active business requirements of subsection (e), and the
corporation is a C corporation.

Section 1202(e)(1) provides that the active business requirements are met by a corporation
for any period if during such period at least 80 percent (by value) of the assets of such
corporation are used by such corporation in the active conduct of one or more qualified
trades or businesses, and such corporation is an eligible corporation.
PLR-115503-23                                  3

Section 1202(e)(3) provides, in relevant part, that a qualified trade or business means any
trade or business other than (A) a trade or business involving the performance of services in
the fields of health, law, engineering, architecture, accounting, actuarial science, performing
arts, consulting, athletics, financial services, brokerage services, or any trade or business
where the principal asset of such trade or business is the reputation or skill of one or more
of its employee.

                                         ANALYSIS

Company engages in x and provides physicians with a report of the results generated by
x. Company’s sole function is to conduct x and provide a report to its customers’
physicians. Company does not treat or diagnose any customer, nor can Company
provide medical advice.

Company employees exercise no independent judgment in conducting x, and follow
specific Company procedures in conducting x. Although Company contracts with
medical physicians to serve as Company medical directors, the physicians’ roles are to
help develop Company policies and procedures, review quality assurance data, and
review incoming orders to ensure that Company can accommodate the requested x. In
their capacity as medical directors, the physicians do not interact with customers, and
they provide no diagnoses, medical advice or treatment on Company’s behalf.

                                       CONCLUSION

We conclude that based on the facts and representations submitted, with respect to x,
Company was engaged in a qualified trade or business as defined in section 1202(e)(3) and
was not engaged in a trade or business involving the performance of services in the fields of
health nor engaged in any trade or business where the principal asset of the trade or
business is the reputation or skill of one or more of its employees.

                                         CAVEATS

Except as expressly provided herein, we do not express or imply any opinion
concerning the federal income tax consequences of any aspect of any transaction or
item discussed or referenced in this ruling, including whether the other statutory and
regulatory prerequisites for exclusion of capital gain under § 1202 were satisfied.

The ruling is based upon information and representations submitted by Taxpayer and
accompanied by a penalty of perjury statement executed by appropriate parties. This
office has not verified any of the material submitted in support of the request for a ruling.
However, as part of the examination process, the IRS may verify the information,
representations, and other data submitted.

This letter ruling is directed only to the taxpayer requesting it. Section 6110(k)(3)
provides that it may not be used or cited as precedent. A copy of the letter is enclosed
showing the deletions proposed to be made when it is disclosed under § 6110.
PLR-115503-23                                        4


Pursuant to the Form 2848, Power of Attorney and Declaration of Representation, on
file, we are sending a copy of this letter to Taxpayer's authorized representatives.

A copy of this letter must be attached to any income tax return to which it is relevant.
Alternatively, taxpayers filing their returns electronically may satisfy this requirement by
attaching a statement to their return that provides the date and control number of the
letter ruling.

                                               Sincerely,



                                               Angella L. Warren
                                               Branch Chief, Branch 4
                                               Office of Associate Chief Counsel
                                               (Income Tax & Accounting)


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