PLR 201117015: S corporation status continued after an ineligible shareholder transfer

Plain-English summary

The IRS determined that an S corporation’s election was inadvertently terminated when an ineligible shareholder acquired shares. After the problem was discovered, an eligible shareholder acquired those shares. The IRS allowed the corporation to continue as an S corporation from the termination date, assuming the original election was valid and was not otherwise terminated. The relief required the corporation and its shareholders to report income, basis adjustments, and distributions consistently with S corporation treatment. Failure to follow those conditions would make the ruling void.

Ruling snapshot

• Question: Could the corporation continue as an S corporation after an ineligible shareholder caused an inadvertent termination?
• Outcome: Approved, subject to reporting conditions
• Key authorities: IRC §§ 1362(f), 1366, 1367, and 1368

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 201117015
Third Party Communication: None
Release Date: 4/29/2011
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-133854-10
Date:
January 10, 2011

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

A = ------------------------------------------------------------------------------
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B = ------------------------------------------------------------------------------
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a = -----

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

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

This responds to a letter dated August 10, 2010, and subsequent correspondence, submitted on behalf of X by its authorized representative, requesting a ruling under § 1362(f) of the Internal Revenue Code.

The information submitted states that X was incorporated in State on D1 and made an election to be treated as an S corporation effective as of that date. On D2, A acquired a shares of X stock. A was not an eligible S corporation shareholder as of the date of transfer, and X’s S corporation election terminated on D2. Upon discovering the existence of the ineligible shareholder, B, an eligible shareholder of X, acquired A’s shares of X stock effective D3.

X represents that the circumstances resulting in the termination of X’s S corporation election were inadvertent and were not motivated by tax avoidance or retroactive tax planning. X and its shareholders consent to make any adjustments (consistent with the treatment of X as an S corporation) as may be 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 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 the ineffectiveness or termination were inadvertent, (3) no later than a reasonable period of time after discovery of the circumstances resulting in the ineffectiveness or termination, steps were taken (A) so that the corporation is a small business corporation or (B) to acquire the 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 the ineffectiveness or termination, the corporation will 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 the termination of X's S corporation election on D2 was inadvertent within the meaning of § 1362(f). Accordingly, pursuant to the provisions of § 1362(f), X will be treated as continuing to be an S corporation from D2 and thereafter, provided X’s S corporation election was valid and was not otherwise terminated under § 1362(d).

This ruling is conditioned upon the shareholders of X including in income their pro rata share of the separately stated and nonseparately computed items of X as provided in § 1366, making any adjustments to basis as provided in § 1367, and taking into account any distributions made by X as provided in § 1368. If X or its shareholders fail to treat themselves as described above, this letter ruling shall be null and void.

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 provisions of the Code. In particular, no opinion is expressed as to whether X is otherwise eligible to be an S corporation.

PLR-133854-10
3

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

Sincerely,

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

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