PLR 1027014: S corporation election restored after an ineligible shareholder transfer

Plain-English summary

The IRS ruled that a corporation's S corporation election terminated when it transferred stock to a corporation that was not an eligible S corporation shareholder. The corporation and its shareholders were unaware that the transfer would terminate the election, and the IRS found the termination inadvertent under section 1362(f). The corporation could continue to be treated as an S corporation, assuming its election was otherwise valid and had not been terminated for another reason. The ruling was conditioned on the transferee transferring the stock to the eligible shareholder within 90 days and on the parties filing any initial or amended returns needed to reflect that ownership.

Ruling snapshot

• Question: Could the corporation continue to be treated as an S corporation after stock was transferred to an ineligible shareholder?
• Outcome: approved, subject to the stated stock-transfer and tax-return conditions
• Key authorities: IRC §§ 1361(b)(1)(B), 1362(a), 1362(d), and 1362(f); IRC § 6110(k)(3)

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201027014 Third Party Communication: None
Release Date: 7/9/2010 Date of Communication: Not Applicable
Index Number: 1362.04-00
Person To Contact:
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----------------------------- Telephone Number:
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--------------------------------- Refer Reply To:
CC:PSI:B02
PLR-140473-09
Date: March 4, 2010

X = ------------------------------------------------------------------------------------------------------
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State = ------------------------------------------------------------------------------------------------------
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A = ------------------------------------------------------------------------------------------------------
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B = ----------------------

D1 = ------------------------------------------------------------------------------------------------------
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D2 = ------------------------------------------------------------------------------------------------------
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D3 = ---------------------

m = ------------------------------------------------------------------------------------------------------
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Year = -------

Dear ------------------

  This responds to a letter dated August 31, 2009, and subsequent

correspondence submitted on behalf of X by X’s authorized representative, requesting
inadvertent termination relief under § 1362(f) of the Internal Revenue Code.

   The information submitted states that X was incorporated under the laws of State

and elected to be an S corporation effective D1. Pursuant to an agreement dated D2, X
transferred m shares of X stock to A, a corporation wholly owned by B who is
represented as being an eligible S corporation shareholder. A is not an eligible
PLR-140473-09 2

shareholder of an S corporation under 1361(b)(1)(B). Neither X or X’s shareholders
were aware that the transfer of stock to A would cause X’s S corporation election to be
terminated. On D3, X learned that its S corporation election terminated as a result of
the transfer of X stock to A, an ineligible S corporation shareholder.

   X represents that the circumstances resulting in the termination of X’s S

corporation election were inadvertent and not motivated by tax avoidance. X further
represents that X has filed returns consistent with X’s status as an S corporation. X
and its shareholders have agreed to make adjustments (consistent with the treatment of
X as an S corporation) as required by the Secretary.

    Section 1362(f) provides that if (1) an election under § 1362(a) by any

corporation (A) was not effective for the taxable year for which it was made (determined
without regard to § 1362(b)(2)) by reason of a failure to meet the requirements of
§ 1361(b) or to obtain shareholder consents, or (B) was terminated under § 1362(d)(2)
or (3), (2) the Secretary determines that the circumstances resulting in such
ineffectiveness or termination were inadvertent, (3) no later than a reasonable period of
time after discovery of the event resulting in the ineffectiveness or termination, steps
were taken (A) so that the corporation is a small business corporation, or (B) to acquire
the required shareholder consents, 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 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
or termination, the corporation shall be treated as an S corporation during the period
specified by the Secretary.

   Based solely on the facts submitted and the representations made, we conclude

that X’s S corporation election terminated on D2 because A was not an eligible
shareholder of X. We also conclude that this termination of X’s S election on D2 was an
inadvertent termination within the meaning of § 1362(f).

    Therefore, we conclude that X will continue to be treated as an S corporation for

the period from D2 provided that X’s S corporation election was valid and was not
otherwise terminated under § 1362(d). This ruling is conditioned on A transferring its X
stock to B within 90 days of the ruling. This ruling is also conditioned on X , A and B
filing within 90 days of this ruling any initial or amended returns for Year as necessary to
treat B as the owner of the X stock originally owned by A.

   Except as specifically set forth above, no opinion is expressed concerning the

federal tax consequences of the facts described above under any other provision of the
Code. Specifically, no opinion is expressed regarding X’s eligibility to be an S
corporation or the validity of its S corporation election.
PLR-140473-09 3

  This ruling is directed only to the taxpayer who requested it. Section 6110(k)(3) of

the Code provides that it may not be used or cited as precedent.

   Pursuant to a power of attorney on file with this office, a copy of this letter is

being sent to X's authorized representative.

                                    Sincerely,



                                    Bradford R. Poston
                                    Senior Counsel, Branch 2
                                    Office of the Associate Chief Counsel
                                    (Passthroughs & Special Industries)

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