Missing QSST election after trust succession receives S termination relief

Plain-English summary

Shares of an S corporation were held in a shareholder's revocable trust during life. At the shareholder's death, the shares passed to another trust that was eligible to elect qualified subchapter S trust status, but the beneficiary did not make the election on time. The ineligible trust shareholder terminated the corporation's S election, although the corporation and shareholders continued filing consistently with S status. The IRS found the termination inadvertent and allowed S status to continue, provided the beneficiary files a retroactive QSST election within 120 days. It did not decide whether the corporation or trust otherwise qualified.

Ruling snapshot

• Question: Can the corporation retain S status after shares passed to a trust without a timely QSST election?
• Outcome: Approved, if the retroactive QSST election is filed within 120 days.
• Key authorities: IRC §§ 1361(c) and (d), and 1362(f).

Full text (IRS public release)

Internal Revenue Service
Department of the Treasury
Washington, DC 20224

Number: 201516017
Third Party Communication: None
Release Date: 4/17/2015
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:
CC:PSI:B01
PLR-124427-14
Date:
December 05, 2014

LEGEND:

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

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

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

Date1 = ---------------------

Date2 = -------------------

Dear--------------

This responds to a letter dated June 19, 2014, submitted on behalf of X, requesting inadvertent termination relief pursuant to § 1362(f) of the Internal Revenue Code (the Code).
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Facts

The information submitted states that X was incorporated under the laws of State and elected to be an S corporation effective on Date 1.

During A’s life, A owned shares in X through Trust 1, a revocable trust. A died on Date

2. Pursuant to the terms of Trust 1, after A’s death, the X shares were transferred from
   Trust 1 to Trust 2 effective Date 2. X represents that Trust 2 is eligible to elect to be a qualified subchapter S trust (QSST). However, a QSST election was not timely made for Trust 2.

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 such year.

Section 1361(b)(1)(B) provides that a “small business corporation” means a domestic corporation that is not an ineligible corporation and that 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 1 of subchapter J of Chapter 1) as owned by an individual who is a citizen or resident of the United States may be a shareholder.

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 trust which consists of stock in an S corporation with respect to which the election under § 1361(d)(2) is made.

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 current income 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
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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(f) provides that if (1) an election under § 1362(a) by any corporation was terminated under § 1362(d)(2) or (3); (2) the Secretary determines that the circumstances resulting in such termination were inadvertent; (3) no later than a reasonable period of time after discovery of the circumstances resulting in the termination, steps were taken so that the corporation is a small business corporation; and (4) the corporation, and each person who was a shareholder of the corporation at any time during the period specified under § 1362(f), agrees to make the adjustments (consistent with the treatment of the corporation as an S corporation) as may be required by the Secretary for that period, then, notwithstanding the circumstances resulting in such termination, the 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 X’s S election terminated on Date 2 when Trust 2 became a shareholder. We further 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 Date 2 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 Trust 2 effective Date 2 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 Trust 2 to be a QSST.

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.
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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 X’s authorized representative.

Sincerely,

Joy C. Spies
Joy C. Spies
Senior Technician Reviewer, Branch 1
(Passthroughs & Special Industries)

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

cc: