Late QSST election does not end S corporation status

Plain-English summary

Shares of an S corporation passed from a deceased shareholder's revocable trust to another trust that was eligible to elect qualified subchapter S trust status. The beneficiary did not make the QSST election on time, causing the corporation's S election to terminate when the new trust became a shareholder. The IRS ruled that the termination was inadvertent under IRC § 1362(f). The corporation would continue to be treated as an S corporation if the beneficiary filed a QSST election effective on the transfer date within 120 days.

Ruling snapshot

• Question: Was the S corporation termination caused by a missed QSST election inadvertent?
• Outcome: Approved. S status continues if the beneficiary files the retroactive QSST election within 120 days.
• Key authorities: IRC §§ 1361(c)(2), 1361(d), 1362(f)

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 201436039
Third Party Communication: None
Release Date: 9/5/2014
Date of Communication: Not Applicable
Index Number: 1361.00-00, 1361.03-02
Person To Contact:
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---------------------------------------------------- Telephone Number:
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Refer Reply To:
CC:PSI:B01
PLR-148841-13
Date:
May 28, 2014

LEGEND

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

B = ---------------------
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Trust1 = ---------------------------------------------
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Trust2 = ------------------------------
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D1 = ------------------------

D2 = ---------------------

D3 = ---------------------------

D4 = ---------------------

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

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

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This responds to a letter dated November 4, 2013, submitted on behalf of X, requesting inadvertent termination relief pursuant to § 1362(f) of the Internal Revenue Code (the Code).

FACTS

According to the information submitted, X was incorporated on D1, under the laws of State. Effective D2, X elected to be taxed as an S corporation.

During A’s life, A owned shares in X through Trust1, a revocable trust. A died on D3. Pursuant to the terms of Trust1, after A’s death, the X shares were transferred from Trust1 to Trust2 on D4. X represents that Trust2 is eligible to elect to be a qualified subchapter S trust (QSST). However, a QSST election was not timely made for Trust2.

X represents that the circumstances resulting in the termination of X’s S corporation election were inadvertent. X further represents that X and its shareholders have filed their income tax returns consistent with having a valid S election in effect for all taxable years since X elected to be an S corporation.

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 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)(i) provides that, for purposes of section 1361(b)(1), a trust all of which is treated (under subpart E of part I of subchapter J) as owned by an individual who is a citizen or resident of the United States may be an S corporation shareholder.

Section 1361(d)(1) provides that a QSST whose beneficiary makes an election under paragraph 1361(d)(2) will be treated as a trust described in subsection 1361(c)(2)(A)(i) and for purposes of section 678(a), the beneficiary of the trust will 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 paragraph 1362(d)(2) is made.

Section 1361(d)(3) defines the term “qualified subchapter S trust” as a trust all of the income (within the meaning of section 643(b)) of which is distributed (or required to be

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distributed) currently to one individual who is a citizen or resident of the United States. In addition, the terms of the trust must require that (i) during the lifetime 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 current income beneficiary in the trust shall terminate on the earlier of such 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 such beneficiary.

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 representations made, we conclude X’s S election terminated on D4 when Trust2 became a shareholder. We also conclude that the termination of X’s S corporation election was inadvertent within the meaning of § 1362(f).

Accordingly, under § 1362(f), X will be treated as continuing to be an S corporation from D4 and thereafter, provided that X’s S election is valid and not otherwise terminated under § 1362(d).

This relief is contingent upon B filing a QSST election for Trust2 effective D4 within 120 days from the date of this letter. A copy of this letter should be attached to the election.

Except as expressly provided herein, no opinion is expressed or implied concerning the tax consequences of any aspect of any transaction or item discussed or referenced in this letter. Specifically, no opinion is expressed or implied concerning the eligibility of X to be an S corporation or Trust2 to be a QSST.

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.

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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,

Joy C. Spies
Joy C. Spies
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: