PLR 200914007: An ineligible shareholder's ownership did not defeat intended S status

Plain-English summary

A corporation attempted to elect S status while an ineligible shareholder owned some of its shares, making the election invalid from its intended effective date. The corporation corrected its ownership so that it qualified as a small business corporation. It represented that the defect was inadvertent, was not tax avoidance or retroactive planning, and that the corporation and shareholders had consistently reported as an S corporation. They also agreed to make any adjustments the IRS required. The IRS treated the invalid election as effective from the intended date under section 1362(f), provided the election was not otherwise terminated.

Ruling snapshot

• Question: Could a corporation receive relief when an ineligible shareholder made its S election invalid from the intended effective date?
• Outcome: Approved: the invalid election was inadvertent, and the corporation was treated as an S corporation from the intended date.
• Key authorities: IRC §§ 1361 and 1362(d), (f).

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 200914007
Third Party Communication: None
Release Date: 4/3/2009
Date of Communication: Not Applicable
Index Number: 1362.04-00
Person To Contact:
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-------------------, ID No. -------------
-------------------------------------------------------- Telephone Number:
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----------------------------------------- Refer Reply To:
CC:PSI:B01
PLR-129387-08
Date:
December 15, 2008

Legend:

X = ---------------------------------------------------------
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D1 = -------------------------

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

This responds to a letter dated June 6, 2008, submitted on behalf of X, requesting relief under § 1362(f) of the Internal Revenue Code.

Facts

According to the information submitted and representations therein, X made an election to be a subchapter S corporation effective D1. On D1, shares of X were owned by an ineligible shareholder. Steps were taken so that X is a small business corporation.

X represents that its invalid S corporation election was inadvertent, unintended, and not the result of tax avoidance or retroactive tax planning. X further represents that at all relevant times, X and its shareholders treated X as an S corporation. X and its shareholders agree to make any adjustments required by the Secretary consistent with the treatment of X as an S corporation.

Law and Analysis

Section 1361(a)(1) defines an “S corporation” as a small business corporation for which an election under § 1362(a) is in effect.
PLR-129387-08
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Section 1361(b)(1) defines a “small business corporation” as a domestic corporation which is not an ineligible corporation which does not (A) have more than 100 shareholders, (B) have as a shareholder a person (other than an estate, and a trust described in subsection (c)(2), or an organization described in subsection (c)(6)) who is not an individual, (C) have a nonresident alien as a shareholder, and (D) have more than 1 class of stock.

Section 1362(d)(2)(A) provides that an election under § 1362(a) shall be terminated whenever (at any time on or after the 1st day of the 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 not effective for the taxable year for which made by reason of a failure to meet the requirements of § 1361(b) or to obtain shareholder consents, (2) the Secretary determines that the circumstances resulting in such ineffectiveness were inadvertent, (3) no later than a reasonable period of time after the discovery of the circumstances resulting in such ineffectiveness, steps were taken so that the corporation for which the election was made is a small business corporation, and (4) the corporation for which the election was made, and each person who was a shareholder in such corporation at any time during the period of the ineffective S election, agrees to makes such adjustments (consistent with the treatment of the corporation as an S corporation) as may be required by the Secretary with respect to such period, then, notwithstanding the circumstances resulting in such ineffectiveness, the corporation is treated as an S corporation during the period specified by the Secretary.

Conclusion

Based solely on the facts submitted and the representations made, we conclude that X’s election to be treated as an S corporation as of D1 was invalid and also conclude that the invalid election constitutes an inadvertent invalid election within the meaning of § 1362(f). Under the provisions of § 1362(f), X will be treated as an S corporation as of D1 and thereafter, provided that X’s S corporation election is not otherwise terminated under § 1362(d).

Except as specifically provided herein, no opinion is expressed or implied as to the federal tax consequences of the facts described above under any other provision of the Code. In particular, no opinion is expressed as to whether X is an S corporation for federal tax.

This ruling is directed only to the taxpayer requesting it. Section 6110(k)(3) of the Code provides that it may not be used or cited as precedent.
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3

Under a power of attorney on file in this office, a copy of this letter will be sent to your authorized representative.

Sincerely,

David R. Haglund

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

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

cc: