PLR 201146001: IRS treats an S corporation election as continuing after missed QSST elections

Plain-English summary

The IRS ruled that a corporation's S corporation election terminated inadvertently after the beneficiaries of two trusts that held its stock failed to make qualified subchapter S trust elections. The corporation represented that both trusts met the QSST requirements and that the parties had reported their income consistently with S corporation treatment. The IRS expressly gave no opinion on whether the trusts were otherwise valid QSSTs. The corporation was treated as continuing to be an S corporation from the termination date, assuming its election was otherwise valid and not separately terminated. The relief required both trust beneficiaries to file QSST elections within 120 days, effective for the respective dates the trusts received the stock.

Ruling snapshot

• Question: May the corporation be treated as an S corporation after its election terminated because QSST elections were not timely made?
• Outcome: Approved.
• Key authorities: IRC §§ 1361, 1362, and 6110(k)(3)

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 201146001
Third Party Communication: None
Release Date: 11/18/2011
Date of Communication: Not Applicable
Index Number: 1362.00-00, 1362.01-02,
1362.02-00, 1362.02-02,
Person To Contact:
1362.04-00
-----------------------, ID No. ------------
Telephone Number:
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Refer Reply To:
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CC:PSI:B01
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PLR-104729-11
Date:
July 28, 2011

Legend:

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

Date 1 = ------------------

Date 2 = ---------------------

Date 3 = ---------------------

Date 4 = --------------------

Trust 1 = -------------------------------------------------
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Trust 2 = ----------------------------------------------------
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Dear ------------:
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This responds to a letter dated January 11, 2011, and subsequent correspondence, submitted on behalf of X, requesting a ruling under § 1362(f) of the Internal Revenue Code.

FACTS

According to the information submitted, X was incorporated on Date 1 under the laws of State. X elected to be treated as an S corporation effective Date 2. On Date 3, Trust 1 received stock in X and on Date 4, Trust 2 received stock in X. The current income beneficiaries of Trust 1 and Trust 2 failed to make elections to treat the Trusts as Qualified Subchapter S Trusts (QSSTs). As a result of the failure to make a QSST election for Trust 1, X’s S election terminated on Date 3.

X represents that Trust 1 and Trust 2 have, at all times met the requirements of a QSST, within the meaning of § 1361(d)(3). X also represents that all income has been reported on all affected federal tax returns of X and all of its shareholders consistent with the treatment of X as an S corporation.

X represents that its S corporation election termination was inadvertent and was not motivated by tax avoidance or retroactive tax planning. 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 for the taxable year.

Section 1361(b)(1)(B) provides that a small business corporation cannot have as a shareholder a person (other than an estate, a trust described in § 1361(c)(2), or an organization described in § 1361(c)(6)) who is not an individual.

Section 1361(d)(1) provides that a QSST whose beneficiary makes an election under § 1361(d)(2) will be treated as a trust described in § 1361(c)(2)(A)(i) and the beneficiary of such trust shall be treated as the owner (for purposes of § 678(a)) of that portion of the QSST which consists of S corporation stock to which an election under § 1361(d)(2) applies. Section 1361(d)(2) provides that a beneficiary of a QSST may elect to have § 1361(d) apply. Under § 1361(d)(2)(D), this election will be effective up to 15 days and 2 months before the date of the election.

Section 1361(d)(3) defines a QSST as a trust (A) the terms of which require that (i) during the life of the current income beneficiary, there shall be only one income beneficiary of the trust; (ii) any corpus distributed during the life of the current income beneficiary may be distributed only to such beneficiary; (iii) the income interest of the
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current beneficiary in the trust shall terminate on the earlier of the beneficiary's death or the termination of the trust; and (iv) upon the termination of the trust during the life of the current income beneficiary, the trust shall distribute all of its assets to that beneficiary; and (B) all of the income (within the meaning of § 643(b)) of which is distributed (or required to be distributed) currently to one individual who is a citizen or resident of the United States.

Section 1362(d)(2)(A) provides that an election under § 1362(a) shall be terminated whenever (at any time on or after the first day of the taxable year for which the corporation is an S corporation) the corporation ceases to be a small business corporation. The termination is effective on and after the day of cessation.
§ 1362(d)(2)(B).

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 consent, 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 circumstances resulting in the 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 this subsection, 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 termination, such corporation shall be 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 the termination of X’s S election on Date 3 constituted an “inadvertent termination” within the meaning of § 1362(f).

Further, we conclude that, pursuant to § 1362(f), X will be treated as continuing to be an S corporation from Date 3 and thereafter, assuming X’s S election is valid and not otherwise terminated under § 1362(d).

This ruling is contingent upon the current income beneficiaries of Trust 1 and Trust 2, within 120 days of the date of this letter, filing elections to treat the Trusts as QSSTs, effective Date 3 for Trust 1 and Date 4 for Trust 2, with the appropriate service center. A copy of this letter should be attached to the QSST elections.
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Except as specifically set forth above, no opinion is expressed or implied concerning the federal tax consequences of the above-described facts under any other provision of the Code, including whether X was otherwise a valid S corporation or whether Trust 1 and Trust 2 are otherwise valid QSSTs.

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 the power of attorney on file with this office, a copy of this letter will be sent to X’s authorized representatives.

Sincerely,

Joy C. Spies
Joy C. Spies
Acting Senior Technician Reviewer,
Branch 1
Office of the Associate Chief Counsel
(Passthroughs & Special Industries)

Enclosures:
Copy of this letter
Copy for § 6110 purposes

cc: