The $3 Million Tax Move Dr. Kimbob Made
The Magic of Section 1202
S Corporations seem to be the king of entities these days.
Everywhere you look, people are talking about S-Corps.
Got a professional corporation? “Get it taxed as an S-Corp!” they say.
It almost feels like S-Corporations have some magical power to save you taxes.
And in many cases, they do.
But sometimes — electing S-Corp status can cost you millions.
Let me tell you about Dr. Kimbob.
Meet Dr. Kimbob.
Dr. Kimbob is an ER doctor who invented a nifty medical device that helps ER physicians minimize water splashing during wound irrigation.
He believed in the product and, wisely, consulted his tax accountant and attorneys before launching the company.
Contrary to what his ER buddies told him (“Just get it taxed as an S-Corp!”), Dr. Kimbob listened to his advisors - and decided to set up his corporation to be taxed as a C Corporation.
It turned out to be one of the best decisions of his life.
Business Boom
Thanks to great marketing and hospital system connections, Dr. Kimbob’s company took off.
He was selling millions of devices annually.
After five years of massive growth, a major medical device company offered to buy him out - for a cool $11 million.
Dr. Kimbob had officially made it - his Korean mom couldn’t have been prouder.
She was essentially thrilled that she could finally stop making kimchi to support him and herself!
Where the Real Magic Happened
When he shared the news with his advisors, they congratulated him — and then delivered even better news.
Even though he would have about $10 million of gain (after accounting for the $1 million he originally invested), his federal tax bill wasn’t going to be $2 million like he thought (roughly 20% capital gains plus 3.8% net investment income tax).
It was going to be $0!
Why?
Because his company was a C corporation — and it qualified for a powerful but lesser-known tax break under Section 1202 of the Internal Revenue Code.
What is Section 1202?
Section 1202 provides a massive tax break for entrepreneurs like Dr. Kimbob:
If you sell Qualified Small Business Stock (QSBS) that you’ve held for more than five years, you can exclude upto $10 million of gain - or 10 times your original investment, whichever is greater - from federal income tax.
Tax-free money, baby!
But not every business qualified.
Here’s what you need to meet for Section 1202 gain exclusion to apply.
C corporation:
The company must have been a C corporation when the stock was issued and must stay that ways throughout the ownership (a narrow exception exists)
Gross Assets under $50 million:
The company’s total assets must be under $50 million before and immediately after issuing the stock.
Qualified Business Activity:
The business cannot be in professional services (like medicine, law, or accounting - what a bummer!). But manufacturing and product sales - like Dr. Kimbob’s medical device - are eligible.
Five-Year Holding Period:
You must have held the stock for at least five years before selling.
Since Dr. Kimbob met all of the above criteria, he was eligible for Section 1202 - and excluded the entire $10 million gain from federal income taxation.
Wow.
The California Problem
There was one catch.
While the IRS honors Section 1202, California does not. 😐
Even if you qualify federally, if you are a California resident when you sell, California will still tax your gain.
In Dr. Kimbob’s case, staying in California would have meant paying around $1 million in state income taxes on his $10 million gain.
So what did his advisors recommend?
Move.
Two years before the sale, Dr. Kimbob’s moved his residence and his corporation to Nevada, a no-state-income-tax state.
Because he made the move early (well before the sale), he was able to legally avoid California state income taxes on the $10 million gain.
No offshore trusts.
No shady schemes.
Just smart planning, fully within the letter of the law.
The Lesson
Had Dr. Kimbob listened to his buddies and elected S-Corp status?
He would have lost his chance at Section 1202 exclusion right from the start.
Thanks to smart planning and right advice, Dr. Kimbob was able to keep millions in his pocket.
Now he’s enjoying a tax-free retirement with his family - in sunny, no-state-income-tax Nevada.
Final Takeaway
The more you know, the more you keep - and the less flow to the IRS
Think ahead when setting up your business.
Don’t blindly elect S-corp status just because “everyone else is doing it.”
Understand powerful opportunities like Section 1202
Surround yourself with smart advisors who plan for both today - and the big payday down the road.
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