PLR 201306015: IRS preserves S corporation status after a late QSST election

Plain-English summary

The IRS ruled that an S corporation's election was inadvertently terminated when stock was transferred from one trust to another and the new trust did not make a timely qualified subchapter S trust election. The corporation and its shareholders had consistently treated the corporation as an S corporation, and the failure was not motivated by tax avoidance or retroactive tax planning. The IRS allowed the corporation to continue as an S corporation, conditioned on a QSST election being filed within 120 days and made effective on the transfer date.

Ruling snapshot

• Question: Could the corporation retain S corporation status after a trust failed to make a timely QSST election?
• Outcome: approved
• Key authorities: IRC §§ 1361, 1362; Treas. Reg. §§ 1.1361-1, 1.1362-4

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 201306015
Third Party Communication: None
Release Date: 2/8/2013
Date of Communication: Not Applicable
Person To Contact:
Index Number: 1362.04-00
---------------------, ID No. -----------------
Telephone Number:
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Refer Reply To:
------------------------------------------------ CC:PSI:B02
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PLR-140749-12
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Date:
October 11, 2012

Legend

X = -------------------------------------------------

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

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

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

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

Year = -------

A = ----------------------

Trust 1 = --------------------------------------------------------

Trust 2 = ----------------------------------------
----------------------

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

This responds to a letter dated September 10, 2012 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 formed in State on Date 1 and made an election to be treated as an S corporation effective on its formation. In Year, A transferred shares of X to Trust 1, a revocable trust treated as a wholly-owned grantor
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trust under §§ 671 and 676. On Date 2, A died, and Trust 1 became irrevocable. Trust 1 qualified as an S corporation shareholder under § 1361(c)(2)(A)(ii). Pursuant to the terms of Trust 1, Trust 1’s shares of X were transferred to Trust 2 on Date 3.

X represents that Trust 2 satisfies the requirements to be treated as a Qualified Subchapter S Trust (“QSST”) under § 1361(d) since Date 3, except that Trust 2 did not make a timely QSST election under § 1361(d)(2).

X represents that X and each of its shareholders have filed consistently with the treatment of X as an S corporation since Date 1. X further represents that the failure to properly file the QSST election for Trust 2 was not motivated by tax avoidance or retroactive tax planning. X and its shareholders have agreed to make any adjustments that the Commissioner may require, consistent with the treatment of X as an S corporation.

Section 1361(a)(1) of the Code 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)(B) provides that the term “small business corporation” means a domestic corporation which is not an ineligible corporation and which does not 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(c)(2)(A)(i) provides that, for purposes of § 1361(b)(1)(B), a trust all of which is treated (under subpart E of part I of subchapter J of chapter 1) as owned by an individual who is a citizen or resident of the United States may be an S corporation shareholder.

Section 1361(c)(2)(A)(ii) and § 1.1361-1(h)(1)(ii) provide that, for purposes of § 1361(b)(1)(B), a trust that is described in § 1361(c)(2)(A)(i) immediately before the death of the deemed owner and that continues in existence after such death is a permitted S corporation shareholder, but only for the two-year period beginning on the day of the deemed owner's death. Section 1.1361-1(h)(3)(i)(B) provides that if stock is held by a trust described in § 1.1361-1(h)(1)(ii), the estate of the deemed owner is generally treated as the shareholder as of the day of the deemed owner's death.

Section 1361(d)(1) provides that in the case of a QSST for which a beneficiary makes an election under § 1361(d)(2), the trust is treated as a trust described in § 1361(c)(2)(A)(i), and for purposes of § 678(a), the beneficiary of the trust shall be treated as the owner of that portion of the trust that consists of stock in an S corporation with respect to which the election under § 1361(d)(2) is made.

Section 1361(d)(2)(A) provides that a beneficiary of a QSST may elect to have § 1361(d) apply. Section 1.1361-1(j)(6)(ii) provides that the current income beneficiary
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of a QSST must make the election under § 1361(d)(2) by signing and filing with the service center with which the corporation files its income tax returns the applicable form or a statement including the information listed in § 1.1361-1(j)(6)(ii).

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

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 X’s election to be treated as an S corporation was terminated on Date 3 and that this termination was inadvertent within the meaning of § 1362(f). We further conclude that, pursuant to the provisions of § 1362(f), X will continue to be treated as being an S corporation from Date 3 and thereafter, provided that X is otherwise eligible to be an S corporation and provided that the election was not otherwise terminated under § 1362(d).

This ruling is conditioned upon the trustee of Trust 2 filing, with the appropriate service center, a QSST election effective Date 3 for Trust. The QSST election must be filed within 120 days following the date of this letter and a copy of this letter should be attached to the election.

Except as specifically ruled above, we express no opinion concerning the federal tax consequences of the transactions described above under any other provisions of the Code. Specifically, we express no opinion regarding X’s eligibility to be an S corporation. Further, we express no opinion on whether Trust 2 is otherwise eligible to be a QSST.
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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 Poston
Senior Counsel, Branch 2
Office of the Associate Chief Counsel
(Passthroughs & Special Industries)