Corporation received relief for an inadvertent S election termination

Plain-English summary

Three trusts that met the substantive requirements for qualified subchapter S trusts acquired stock in an S corporation, but their respective income beneficiaries did not timely file QSST elections. The trusts therefore became ineligible shareholders and terminated the corporation's S election. The IRS found the termination inadvertent and ruled that the corporation would continue to be treated as an S corporation from the date the trusts acquired the stock, assuming its election was otherwise valid. The relief requires each beneficiary to file a QSST election for the beneficiary's trust within 120 days.

Ruling snapshot

• Question: May the corporation continue to be treated as an S corporation after three trust beneficiaries failed to file timely QSST elections?
• Outcome: Approved, provided each beneficiary files the missing QSST election within 120 days
• Key authorities: IRC §§ 1361(c), 1361(d), 1362(d), 1362(f); Treas. Reg. § 1.1361-1(j)(6)(ii)

Full text (IRS public release)

Internal Revenue Service                                      Department of the Treasury
                                                              Washington, DC 20224

Number: 202418003                                             Third Party Communication: None
Release Date: 5/3/2024                                        Date of Communication: Not Applicable
Index Number: 1362.04-00
                                                              Person To Contact:
------------------------------                                ----------------, ID No. -----------------
                                                              Telephone Number:
                                                              ---------------------
                                                              Refer Reply To:
                                                              CC:PSI:B03
                                                              PLR-115510-23
                                                              Date:
                                                              January 22, 2024



LEGEND:

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

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

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

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

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

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

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

Trust 3       =      ----------------------------------------------------------------------------
                     ------------------------

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

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

Date 3        =      ----------------------
PLR-115510-23                                 2


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


        This letter responds to a letter dated August 1, 2023, and subsequent
correspondence, submitted on behalf of X by its authorized representatives, requesting
a ruling under § 1362(f) of the Internal Revenue Code (the Code).

                                          FACTS

       The information submitted states that X was incorporated on Date 1 under the
laws of State and elected to be an S corporation effective Date 2.

       On Date 3, Trust 1, Trust 2, and Trust 3 (collectively the Trusts) acquired shares
of X stock. X represents that Trust 1, Trust 2, and Trust 3 satisfied the qualified
subchapter S trust (QSST) requirements under § 1361(d)(3). However, A, B, and C, the
income beneficiary of Trust 1, Trust 2, and Trust 3, respectively, failed to make an
election under § 1361(d)(2) to treat their respective trust as a QSST effective Date 3.
Therefore, X’s S corporation election terminated on Date 3 when ineligible shareholders
held shares of X stock.

        X represents that the circumstances resulting in the termination of X’s S
corporation election were inadvertent and were not motivated by tax avoidance or
retroactive tax planning. Additionally, X represents that it and its shareholders have
filed tax returns consistent with the treatment of X as an S corporation and the Trusts as
QSSTs since Date 3. X and its shareholders agree to make any adjustments
(consistent with the treatment of X as an S corporation) as 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 such 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
one class of stock.
       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 of the Code)
as owned by an individual who is a citizen or resident of the United States may be an S
corporation shareholder.
PLR-115510-23                                 3


        Section 1361(d)(1) provides that, in the case of a QSST with respect to which a
beneficiary makes an election under § 1361(d)(2), such trust shall be treated as a trust
described in § 1361(c)(2)(A)(i) and for purposes of § 678(a), the beneficiary of such
trust shall be treated as the owner 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)(2)(A) provides that a beneficiary of a QSST may elect to have § 1361(d) apply.

         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
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 1.1361-1(j)(6)(ii) of the Income Tax Regulations provides that the current
income beneficiary of the trust must make the election under § 1361(d)(2) by signing
and filing, with the service center with which the S corporation files its income tax return,
the applicable form or a statement including the information listed in § 1.1361-1(j)(6)(ii).

       Section 1362(d)(2)(A) provides that 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 a corporation is an S corporation) such corporation ceases to be a small business
corporation. Section 1362(d)(2)(B) provides that the termination shall be effective on
and after the date of cessation.

        Section 1362(f) provides, in part, 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 the 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 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 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 termination, the corporation shall be treated as an S corporation during the period
specified by the Secretary.
PLR-115510-23                                4


                                      CONCLUSION

       Based solely on the facts submitted and representations made, we conclude that
X’s S corporation election terminated on Date 3 when the Trusts acquired shares of X
stock. We further conclude that the circumstances resulting in the termination of X’s S
corporation election were inadvertent within the meaning of § 1362(f). Therefore, under
§ 1362(f), X will be treated as continuing to be an S corporation from Date 3 and
thereafter, provided X’s S corporation election was otherwise valid and not otherwise
terminated under § 1362(d).

       This ruling is contingent on A, B, and C each filing a QSST election for their
respective trust effective Date 3, with the appropriate service center within 120 days
from the date of this letter. A copy of this letter should be attached to each QSST
election.

       Except as specifically ruled above, we express or imply no opinion concerning
the federal tax consequences of the facts described above under any other provision of
the Code. Specifically, we express or imply no opinion regarding X’s eligibility to be an
S corporation or the Trusts’ eligibility to be QSSTs.

       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 requested ruling, it is subject to verification on examination.

      This ruling is directed only to the taxpayer that requested it. Section 6110(k)(3) of
the Code provides that it may not be used or cited as precedent.
PLR-115510-23                                            5

        Pursuant to a power of attorney on file with this office, we are sending a copy of
this letter to X’s authorized representatives.

                                                             Sincerely,




                                                             Mary Beth Carchia
                                                             Senior Technician Reviewer, Branch 3
                                                             Office of Associate Chief Counsel
                                                             (Passthroughs & Special Industries)



Enclosure:
      Copy of this letter for § 6110 purposes



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