PLR 201224014: IRS restores S corporation status after missed ESBT elections

Plain-English summary

The IRS ruled that a corporation's S election terminated when two trusts became shareholders without timely making the required Electing Small Business Trust elections. The IRS determined that the termination was inadvertent and allowed the corporation to continue being treated as an S corporation from the transfer date, provided the S election was otherwise valid. The trustees must file the ESBT elections within 120 days of the ruling date, with a copy of the ruling attached. The IRS did not rule on the corporation's general eligibility to be an S corporation.

Ruling snapshot

• Question: Could the corporation retain S corporation treatment after the trusts missed their ESBT elections?
• Outcome: Approved, contingent on the trustees filing the ESBT elections within 120 days.
• Key authorities: IRC §§ 1361 and 1362

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 201224014
Third Party Communication: None
Release Date: 6/15/2012
Date of Communication: Not Applicable
Person To Contact:
Index Number: 1362.04-00
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Telephone Number:
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Refer Reply To:
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CC:PSI:B01
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PLR-137337-11
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Date:
March 07, 2012

LEGEND

X = --------------------------
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A = --------------------------

Trust 1 = ----------------------------
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Trust 2 = --------------------------------
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Date 1 = -------------------------

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

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

State = ------------------

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

This responds to a letter dated August 18, 2011, and subsequent correspondence, submitted on behalf of X by X’s authorized representative, requesting relief under section 1362(f) of the Internal Revenue Code (the Code).

FACTS
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According to the information submitted and representations within, X was incorporated on Date 1, under the laws of State. Effective Date 2, X elected to be treated as an S corporation. On Date 3, A transferred shares of X to Trust 1 and Trust 2. X represents that Trust 1 and Trust 2 have at all times met the requirements of an Electing Small Business Trust (ESBT) except that the trustees of Trust 1 and Trust 2 did not make timely ESBT elections under §1361(e)(3).

X represents that X and its shareholders have treated X as an S corporation at all relevant times, and that Trust 1 and Trust 2 have been treated as ESBTs since their dates of formation.

X represents that the failure to file ESBT elections for Trust 1 and Trust 2 was inadvertent and was not motivated by tax avoidance or retroactive tax planning. Further, X represents that X and its shareholders agree to make any adjustments (consistent with the treatment of X as an S corporation) that may be required by the Secretary.

LAW AND ANALYSIS

Section 1361(a)(1) provides that the term “S corporation” means, with respect to any taxable year, a small business corporation for which an election under § 1362(a) is in effect for such year.

Section 1361(b)(1) defines a “small business corporation” as a domestic corporation which is not an ineligible corporation and which does not (A) have more than 100 shareholders, (B) 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, (C) have a nonresident alien as a shareholder, and (D) have more than 1 class of stock.

Section 1361(c)(2)(A)(v) provides that, for purposes of § 1362(b)(1)(B), an ESBT may be an S corporation shareholder.

Section 1361(e)(1)(A) provides that an ESBT means any trust if (i) such trust does not have as a beneficiary any person other than (I) an individual, (II) an estate, (III) an organization described in § 170(c)(2), (3), (4), or (5), or (IV) an organization described in
§ 170(c)(1) which holds a contingent interest in such trust and is not a potential current beneficiary, (ii) no interest in such trust was acquired by purchase, and (iii) an election under § 1361(e) applies to such trust.

Section 1361(e)(1)(B) provides that an ESBT does not include (i) any qualified subchapter S trust (as defined in § 1361(d)(3)) if an election under § 1361(d)(2) applies to any corporation the stock of which is held by such trust, (ii) any trust exempt from tax under subtitle A, and (iii) any charitable remainder annuity trust or charitable remainder
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unitrust (as defined in § 664(d)).

Section 1361(e)(3) provides that an election under § 1361(e) shall be made by the trustee. Any such election shall apply to the taxable year of the trust for which made and all subsequent taxable years of such trust unless revoked with the consent of the Secretary.

Section 1.1361-1(m)(2)(i) of the Income Tax Regulations provides that the trustee of an ESBT must make the ESBT election by signing and filing, with the service center where the S corporation files its income tax return, a statement that meets the requirements of
§ 1.1361-1(m)(2)(ii).

Section 1.1361-1(m)(2)(iii) provides that the trustee of an ESBT must file the ESBT election within the time requirements prescribed in § 1.1361-1(j)(6)(iii) for filing a QSST election (generally within the 16-day-and-2-month period beginning on the day that the stock is transferred to the trust).

Section 1362(f) provides, in relevant part, that if (1) an election under § 1362(a) by any corporation 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); (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 such ineffectiveness or termination, steps were taken so that the corporation for which the termination occurred is a small business corporation; and (4) the corporation for which the termination occurred, and each person who was a shareholder in such corporation at any time during the period specified pursuant to § 1362(f), agrees to make the adjustments (consistent with the treatment of such 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, 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 X’s S election terminated on Date 3 because of the failure to timely file ESBT elections for Trust 1 and Trust 2. We further conclude that the termination of X’s S election was inadvertent within the meaning of § 1362(f). Therefore, X will be treated as an S corporation effective Date 3 and thereafter, provided X’s S corporation election is otherwise valid and not otherwise terminated under § 1362(d).

This ruling is contingent on the trustees of Trust 1 and Trust 2 filing with the appropriate service center, within 120 days from the date of this letter, elections to treat Trust 1 and Trust 2 as ESBTs effective Date 3. A copy of this letter should be attached to each
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ESBT election.

Except as specifically ruled upon above, we express or imply no opinion concerning the federal tax consequences of the facts of this case under any other provision of the Code. Specifically, we express or imply no opinion regarding X’s eligibility to be an S corporation.

This ruling is directed only to the taxpayer who requested it. According to § 6110(k)(3), this ruling may not be used or cited as precedent.

Pursuant to the power of attorney on file with this office, we are sending a copy of this letter to your authorized representative.

Sincerely,

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

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

cc: