PLR 201312016: IRS restores a corporation's S election after an inadvertent termination

Plain-English summary

The IRS ruled that a corporation would continue to be treated as an S corporation after a share transfer may have terminated its S election. The transfer violated an agreement, but the corporation took corrective action promptly after learning about it. The corporation and its shareholders represented that they did not intend to terminate the election and agreed to make any adjustments required by the IRS. Based on those facts, the IRS treated the termination as inadvertent under section 1362(f).

Ruling snapshot

• Question: Would the corporation's S election be restored if a share transfer had caused an inadvertent termination?
• Outcome: Approved, the corporation was treated as an S corporation from the stated date onward, subject to the requirements in the ruling.
• Key authorities: IRC §§ 1361 and 1362(f)

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 201312016
Third Party Communication: None
Release Date: 3/22/2013
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:
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Date:

• November 27, 2012

LEGEND

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

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

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

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

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

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

State 1 = ---------------

State 2 = ---------

Agreement 1 = ----------------------------------------------------

Agreement 2 = --------------------------------------------

Agreement 3 = -------------------------------------------------------------------------------
PLR-127897-12
2

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

This responds to a letter dated June 26, 2012, submitted on behalf of X, requesting relief under section 1362(f) of the Internal Revenue Code (the Code).

FACTS

According to the information submitted, X was incorporated under the laws of State 1 on Date 1. Effective Date 1, X elected to be taxed as an S corporation. X subsequently converted its state of incorporation to State 2.

On Date 2, A, a shareholder of X, transferred X shares to Y pursuant to Agreement 1. This transfer was in violation of Agreement 2. Upon learning of the transfer, X immediately took corrective action and executed Agreement 3 on Date 3 and Date 4.

It is represented that Agreement 1 may have caused the termination of X’s S election on Date 2.

X represents that if its S corporation election terminated it was inadvertent and was not motivated by tax avoidance or retroactive tax planning. X and its shareholders represent that at no time did they intend to terminate X’s S corporation election. Further, X represents that X and its shareholders agree to make any adjustments required as a condition of obtaining relief under the inadvertent termination rule as provided under § 1362(f) of the Code 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 the year. Section 1361(b)(1) defines a “small business corporation” as a domestic corporation which is not an ineligible corporation which does not (A) have more than 100 shareholders, (B) have as a shareholder a person (other than an estate, and a trust described in subsection (c)(2), or an organization described in subsection (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 1362(d)(2)(A) provides that an election under § 1362(a) shall be terminated whenever (at any time on or after the 1st day of the taxable year for which the corporation is an S corporation) such corporation ceases to be a small business corporation.

Section 1362(f) provides in part that if (1) an election under § 1362(a) by any corporation was terminated under § 1362(d), (2) the Secretary determines that the circumstances resulting in the termination were inadvertent, (3) no later than a reasonable period of time after the discovery of the circumstances resulting in the 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 of inadvertent termination of the S election, agrees to makes 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 termination, the corporation is 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 circumstances represented by the taxpayer may have caused an inadvertent termination of X’s S corporation election within the meaning of § 1362(f). Therefore, X will be treated as an S corporation effective Date 2 and thereafter, provided X’s S corporation election is not otherwise terminated under § 1362(d).

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 requesting it. Section 6110(k)(3) provides that it may not be used or cited as precedent.

In accordance with the power of attorney on file with this office, a copy of this letter is being sent to the taxpayer’s authorized representative.

Sincerely,

David R. Haglund
David R. Haglund
Branch Chief, 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: