PLR 200026017: Inadvertent S election termination after trust received shares

Plain-English summary

A trust received stock in an S corporation and later failed to make a timely qualified subchapter S trust election. The corporation's S election terminated, and the trust was later reformed by court order after its eligibility problem was discovered. The IRS ruled the termination inadvertent and said the corporation would be treated as continuing to be an S corporation if its original election was valid, no other termination occurred, and the trustee filed the trust election within 60 days of the letter. The IRS did not decide whether the original S election was valid or whether the trust qualified as a QSST.

Ruling snapshot

• Question: Can the corporation retain S status despite the trust's missed QSST election?
• Outcome: Approved as inadvertent-termination relief, subject to the stated conditions.
• Key authorities: IRC §§ 1361(d) and 1362(f)

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury

Index Number: 1362.04-00 Washington, DC 20224

Number: 200026017
Person to Contact:
Release Date: 6/30/2000
Telephone Number:

Refer Reply To:
CC:DOM:P&SI:1-PLR-119090-99
Date:
March 31, 2000

LEGEND

Company =

A
=

B
=

Trust =

Year =

D1 =

D2 =

D3 =

D4 =

D5 =

D6 =

m
=

This responds to a letter dated December 2, 1999, together with subsequent correspondence, written on behalf of Company, requesting inadvertent termination relief under § 1362(f) of the Internal Revenue Code.

FACTS

Company was incorporated in Year, and elected to be an S corporation effective D1. On D2, Trust was formed by A, a shareholder of Company. On D3, A transferred 2 PLR-119090-99

m shares of Company stock to Trust. Trust was completely revocable until A ‘s death on D4. Company’s S election terminated because the beneficiary of Trust failed to make a timely election under section 1361(d)(2) to treat Trust as a qualified subchapter S trust (QSST).

On D5, it was discovered that no election had been filed for Trust to be treated as a QSST. Upon further investigation, it also was discovered that Trust did not meet the eligibility requirements for a QSST. On D6, B (as trustee for Trust) petitioned the court of appropriate jurisdiction to reform the Trust, and the court subsequently issued an order granting B’s petition. Company represents that Trust, as reformed, is eligible to be treated as a QSST.

Company represents that at all relevant times, Company and its shareholders treated Company as an S corporation. Company and its shareholders agree to make any adjustments required by the Secretary consistent with the treatment of Company as an S corporation. Further, Company represents that the termination of Company’s S status was not motivated by tax avoidance or retroactive tax planning.

LAW AND ANALYSIS

Section 1361(a)(1) provides that the term "S corporation" means, for any taxable year, a small business corporation for which an election under § 1362(a) is in effect for such year.

As of D4, § 1361(b) defines the term "small business corporation" to mean a domestic corporation that is not an ineligible corporation and that does not (A) have more than 35 shareholders, (B) have as a shareholder a person (other than an estate and other than a trust described in § 1361(c)(2)) who is not an individual, (C) have a nonresident alien as a shareholder, and (D) have more than one class of stock. Under § 1361(d), a QSST (defined in § 1361(d)(3)) may be treated as an eligible shareholder described in § 1361(c)(2)(A)(i).

Section 1362(d)(2)(A) provides that an election under § 1362(a) terminates whenever (at any time on or after the first day of the first taxable year for which the corporation is an S corporation) such corporation ceases to be a small business corporation.

Section 1362(f) provides, in part, that if (1) an election under § 1362(a) by any corporation was terminated under § 1362(d)(2); (2) the Secretary determines that the circumstances resulting in the termination were inadvertent; (3) no later than a reasonable period of time after discovery of the circumstances resulting in the termination, steps were taken so that the corporation is a small business corporation; and (4) the corporation, and each person who was a shareholder of the corporation at any time during the period specified pursuant to § 1362(f), agrees to make the adjustments (consistent with the treatment of the corporation as an S corporation) as 3 PLR-119090-99

may be required by the Secretary for that period, then, notwithstanding the circumstances resulting in the termination, the corporation shall be treated as an S corporation during the period specified by the Secretary.

CONCLUSION

After applying the relevant law to the facts submitted and the representations made, we rule that the termination of Company’s subchapter S corporation election, as described above, was an inadvertent termination within the meaning of § 1362(f). Under the provisions of § 1362(f), Company will be treated as continuing to be an S corporation from D4, and thereafter, provided that Company's S corporation election was valid and was not otherwise terminated under § 1362(d), and that B files a QSST election, effective D8, with the appropriate Service Center withing 60 days of the date of this letter.

Except as specifically set forth above, we express no opinion concerning the federal tax consequences of the foregoing facts. Specifically, we express no opinion on whether Company’s original election to be an S corporation was a valid election under § 1362, or whether Trust is a QSST within the meaning of § 1361(d)(3).

This ruling is directed only to the taxpayer requesting it. Under § 6110(k)(3), it may not be used or cited as precedent.

In accordance with the Power of Attorney on file with this office, a copy of this letter is being sent to Company.

Sincerely yours,
David R. Haglund
Senior Technician Reviewer, Branch 1
Office of the Assistant Chief Counsel
(Passthroughs and Special Industries)

Enclosures (2)
Copy of this letter
Copy for § 6110 purposes