Subsidiary receives relief for ineffective QSub election

Plain-English summary

An S corporation acquired all the stock of another S corporation in a transaction represented as part of an F reorganization. It filed Form 8869 to treat the acquired corporation as a qualified subchapter S subsidiary, but the election was ineffective because the subsidiary did not meet all QSub requirements when the election was made. The parties represented that the failure was inadvertent, no return had been filed inconsistently with the intended treatment, and they would make required adjustments. The IRS granted inadvertent-election relief and treated the subsidiary as a QSub from the intended date. It did not rule on the subsidiary's other eligibility, its later merger, or the validity and consequences of the represented reorganization.

Ruling snapshot

• Question: Could an ineffective QSub election be treated as effective from its intended date?
• Outcome: Approved; the subsidiary is treated as a QSub from that date, assuming the election was otherwise valid and not later terminated.
• Key authorities: IRC §§ 1361(b)(3) and 1362(f); Treas. Reg. § 1.1361-3(a)(1)

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201821011 Third Party Communication: None
Release Date: 5/25/2018 Date of Communication: Not Applicable
Index Number: 1362.00-00, 1362.04-00
Person To Contact:
-------------------- ------------------------, ID No. ------------------
----------------------------------------- ----------------------------------------------------
-------------------------------------------- Telephone Number:
------------------------------ ----------------------
Refer Reply To:
CC:PSI:03
PLR-129614-17
Date:
February 15, 2018

Legend

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

B = ----------------------------

C = ----------------------------

Shareholder 1 = -----------------------

Shareholder 2 = ------------------------------

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

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

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

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

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

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

Date 5 = -------------------------

Date 6 = ------------------------

Date 7 = --------------------

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

This letter responds to a letter dated September 14, 2017 submitted on behalf of A by
its authorized representative requesting a ruling under § 1362(f) of the Internal Revenue
Code (Code).

                                             Facts

According to the information submitted, B was organized under the laws of State 1 on
Date 1, and made an election to be a subchapter S corporation effective Date 1. A was
organized under the laws of State 1 on Date 2, and made an election to be a
subchapter S corporation effective Date 3. A formed C under the laws of State 2 on
Date 5. C is treated as a disregarded entity for federal tax purposes.

On Date 4, incident to what A represents was part of a reorganization under
§ 368(a)(1)(F), Shareholder 1 and Shareholder 2 contributed all of their stock in B to A,
resulting in A wholly owning B. On Date 6, B merged into C. In a letter dated Date 7, A
sent the Internal Revenue Service a Form 8869, Qualified Subchapter S Subsidiary
Election, effective on Date 4. A later discovered that its election to treat B as a Qualified
Subchapter S Subsidiary (QSub) was ineffective due to B’s failure to meet all the
requirements of § 1361(b)(3)(B) and § 1.1361-3(a)(1) of the Income Tax Regulations at
the time the election was made.

A represents that its ineffective QSub election for B was inadvertent. A further
represents that no federal tax return of any person has been filed inconsistent with a
valid QSub election having been made for B effective Date 4. B and A have agreed to
make any adjustments required by the Service consistent with the treatment of B as a
QSub.

                                     Law and Analysis

Section 1361(b)(3)(A) provides that, except as provided in regulations prescribed by the
Secretary, for purposes of the Code-(i) a corporation which is a QSub shall not be
treated as a separate corporation, and (ii) all assets, liabilities, and items of income,
deduction, and credit of a QSub shall be treated as assets, liabilities, and such items (as
the case may be) of the S corporation.

Section 1361(b)(3)(B) provides that the term “QSub” means any domestic corporation

which is not an ineligible corporation (as defined in § 1361(b)(2)), if (i) 100 percent of
the stock of such corporation is held by the S corporation, and (ii) the S corporation
elects to treat such corporation as a QSub.

Section 1.1361-3(a)(1) provides that the corporation for which a QSub election is made
must meet all the requirements of § 1361(b)(3)(B) at the time the election is made and
for all periods for which the election is to be effective.

Section 1362(f) and the regulations thereunder provide relief for an ineffective S
corporation election or ineffective QSub election (i.e., treating the ineffective election as
effective) or inadvertent termination of an S corporation election or QSub election
provided the following conditions are met:

a. The corporation made an election under § 1362(a) or § 1361(b)(3)(B)(ii) that was
ineffective or was terminated;

b. The Service determines that circumstances resulting in the ineffectiveness or
termination were inadvertent;

c. Steps were taken by the corporation to qualify it as a small business corporation
or QSub within a reasonable period of time after discovery of the ineffectiveness;
and

d. The corporation and all shareholders agree to any adjustments that the Service
may require for the period.

                                     Conclusion

Based solely on the facts submitted and representations made, we conclude that A’s
election to treat B as a QSub as of Date 4 was ineffective. We also conclude that the
circumstances resulting in the ineffectiveness of the QSub election were inadvertent
within the meaning of § 1362(f) and A took steps to qualify as a QSub within a
reasonable period after discover of the ineffectiveness. Thus, under the provisions of
§ 1362(f), B will be treated as a QSub effective on Date 4, provided that B’s QSub
election was otherwise valid and not otherwise terminated under § 1361(b)(3)(C).

Except as expressly provided herein, we express or imply no opinion concerning the
federal tax consequences of any aspect of any transaction or item discussed or
referenced in this letter. This includes no express or imply opinion on whether B was
otherwise eligible to be treated as a QSub, the tax consequences of B’s merger with C,
or the validity and tax consequences of the reorganization under § 368(a)(1)(F).

This ruling is directed only to the taxpayer that requested it. Section 6110(k)(3) of the
Code provides that this ruling may not be used or cited as precedent.

The ruling contained in this letter is based upon information and representations
submitted by the taxpayer and accompanied by a penalty of perjury statement executed
by an appropriate party. While this office has not verified any of the material submitted
in support of the ruling request, it is subject to verification on examination.

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

                                   Sincerely,


                                   ______________________________
                                   Bradford R. Poston
                                   Special Counsel to the Associate Chief Counsel
                                   (Passthroughs & Special Industries)

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

cc: