PLR 1047007: IRS permits an early qualified subsidiary S election after a prior revocation

Plain-English summary

The IRS considered whether a corporation could make a qualified subchapter S subsidiary election before the five-year waiting period that generally follows termination of an earlier S election. The corporation had revoked its prior S election, was later acquired through a structure involving an employee stock ownership plan, and sought consent to make the new election early. The IRS concluded that the taxpayer met the regulatory standard for consent and granted permission for the qualified subsidiary election, subject to related S corporation elections also becoming effective and to specified representations about elections under sections 1042, 4978, and 4979A. The ruling is useful as an example of the conditions the IRS may attach to consent under section 1362(g).

Ruling snapshot

• Question: May the corporation make a qualified subchapter S subsidiary election before the section 1362(g) five-year waiting period ends?
• Outcome: Approved
• Key authorities: IRC §§ 1361, 1362, 1042, 4978, and 4979A; Treas. Reg. § 1.1362-5

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201047007 Third Party Communication: None
Release Date: 11/26/2010 Date of Communication: Not Applicable
Index Number: 1362.01-02
Person To Contact:
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-------------------------------------------- Telephone Number:
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------------------------------------ Refer Reply To:
CC:PSI:B02
PLR-108650-10
Date:
August 06, 2010

Legend

X = ----------------------------------------------
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Y = ----------------------------------------------
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State = ------------

D1 = ----------------------------------------------
D2 = ----------------------------------------------
D3 = ----------------------------------------------
D4 = ----------------------------------------------
D5 = ----------------------------------------------
D6 = ----------------------------------------------
D7 = ----------------------

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

This letter responds to a letter dated, February 11, 2010, and subsequent
correspondence, submitted on behalf of X, requesting a ruling under § 1362(g) of the
Internal Revenue Code.

FACTS

The information submitted states that X was incorporated on D1. X elected to be an S
corporation effective D2, but revoked that election effective D4.
PLR-108650-10 2

The shareholders of Y adopted an employee stock ownership plan (ESOP) effective D3.
Y acquired 100 percent of the outstanding shares of X on D5. On D6, the ESOP
purchased 100 percent of the issued and outstanding shares of Y from the
shareholders. Y will elect to be an S corporation effective D7.

Y is requesting permission to file Form 8869, Qualified Subchapter S Subsidiary
Election, on behalf of X effective D7, which is prior to the termination of the five-year
waiting period imposed by § 1362(g). Y represents that its former shareholders will not
make an election under § 1042 upon selling their shares of Y stock to the ESOP.
Additionally, Y represents that it will not consent to any such election under §§ 4978 and
4979A.

LAW

Section 1362(a) provides that except as provided in § 1362(g), a small business
corporation may elect to be an S corporation.

Section 1361(b)(1) provides, in part, that for the purposes of subchapter S, the term
“small business corporation” means a domestic corporation which is not an ineligible
corporation and which does not (B) have as a shareholder a person (other than an
estate, trust described in § 1361(c)(2), or an organization described in § 1361(c)(6))
who is not an individual and (D) have more than one class of stock.

Section 1361(c)(6) provides that for purposes of § 1361(b)(1)(B), an organization which
is described in §§ 401(a) or 501(c)(3), and exempt from taxation under § 501(a) may be
a shareholder in an S corporation. ESOPs as defined in § 4975(e)(7) are described in §
401(a) and exempt from taxation under § 501(a).

Section 1362(d)(1)(A) provides that an election under § 1362(a) may be terminated by
revocation.

Section 1362(g) provides that if a small business corporation has made an election
under § 1362(a) and if such election has been terminated under § 1362(d), the
corporation (and any successor corporation) is not eligible to make an election under
section 1362(a) for any taxable year before its fifth taxable year which begins after its
first taxable year for which the termination is effective, unless the Secretary consents to
the election.

Section 1.1362-5(a) of the Income Tax Regulations provides that the corporation has
the burden of establishing that under the relevant facts and circumstances, the
Commissioner should consent to a new election. The fact that more than 50 percent of
the stock in the corporation is owned by persons who did not own any stock in the
corporation on the date of the termination tends to establish that consent should be
granted. In the absence of this fact, consent ordinarily is denied unless the corporation
PLR-108650-10 3

shows that the event causing termination was not reasonably within the control of the
corporation or shareholders having a substantial interest in the corporation and was not
part of a plan on the part of the corporation or of such shareholders to terminate the
election.

Based solely on the facts submitted and representations made, we conclude that X has
met its burden under § 1.1362-5(a). We grant permission to X to elect to be a qualified
subchapter S subsidiary effective D7 and for all subsequent years unless otherwise
terminated. This consent is dependent upon X successfully electing to be treated as a
qualified subchapter S subsidiary and dependent upon Y successfully electing to be
treated as an S corporation, both elections effective D7. This ruling is conditioned on
the shareholders of Y not making an election under § 1042 concerning the sale of their
Y stock to the ESOP and Y not consenting to any such election under §§ 4978 and
4979A.

Except as specifically set forth above, we express or imply no opinion concerning the
federal tax consequences of the facts described above under any other provision of the
Code. Specifically, we express or imply no opinion as to whether Y is a small business
corporation under § 1361(b), and we express or imply no opinion as to whether X is a
small business corporation under § 1361(b).

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
forwarded 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