Three late trust elections caused an inadvertent S termination

Plain-English summary

After an S corporation shareholder died, stock held in the shareholder’s grantor trust passed to three successor trusts. Two qualified to elect treatment as electing small business trusts, and one qualified as a qualified subchapter S trust, but none made its required election on time. The three ineligible trust shareholders therefore terminated the corporation’s S election. The IRS found the termination inadvertent and treated the corporation as continuously maintaining S status. Within 120 days, the trustees of the two ESBTs must file retroactive ESBT elections and the beneficiary of the QSST must file a retroactive QSST election. The ruling does not determine whether the corporation or trusts otherwise qualify.

Ruling snapshot

• Question: Could the corporation retain S status despite three successor trusts failing to make two ESBT elections and one QSST election?
• Outcome: Approved, conditioned on all three retroactive elections being filed within 120 days
• Key authorities: IRC §§ 1361(c), 1361(d), 1361(e), 1362(d), 1362(f); Treas. Reg. § 1.1361-1

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202510001 Third Party Communication: None
Release Date: 3/7/2025 Date of Communication: Not Applicable
Index Number: 1362.04-00
Person To Contact:
--------------------------------- ----------------------, ID No. -----------------
--------------------------------------- Telephone Number:
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Refer Reply To:
CC:PSI:B03
PLR-110735-24
Date:
December 04, 2024

LEGEND

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

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

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

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

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

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

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

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

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

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

Trust 2 = -----------------------------------------------
PLR-110735-24 2
Trust 3 = ----------------------------------------------

Trust 4 = --------------------------------------

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

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

    This letter responds to a letter dated May 21, 2024, submitted on behalf of X by

its authorized representatives requesting a ruling under § 1362(f) of the Internal
Revenue Code (Code).

                                              FACTS

   The information submitted states that X was incorporated on Date 1, under the

laws of State. On Date 1, A, an individual, owned all shares of stock in X. On Date 2,
A transferred all shares of X to Trust 1. Effective Date 3, X elected to be taxed as an S
corporation. Trust 1 was treated under subpart E of part I of subchapter J of chapter 1
as entirely owned by A, and, thus, a permissible shareholder of X under
§ 1361(c)(2)(A)(i). A died on Date 4. Trust 1 no longer owned any shares of X at the
end of the 2-year period beginning on Date 4 described in § 1361(c)(2)(A)(ii).

   On Date 5, the trustee of Trust 1 transferred shares of X to Trust 2. As of Date

5, X represents that Trust 2 qualified as an electing small business trust (ESBT) within
the meaning of § 1361(e), but the trustee of Trust 2 failed to make a timely ESBT
election under § 1361(e)(3) for Trust 2.

    On Date 5, the trustee of Trust 1 transferred shares of X to Trust 3. As of Date

5, X represents that Trust 3 met the requirements to be treated as a qualified
subchapter S trust (QSST) as described in § 1361(d)(1), but the beneficiary of Trust 3
failed to make a timely QSST election for Trust 3.

   On Date 5, Trust 3 sold shares of X to Trust 4. X represents that, as of Date 5,

Trust 4 qualified as an electing small business trust (ESBT) within the meaning of
§ 1361(e), but the trustee of Trust 4 failed to make an ESBT election under
§ 1361(e)(3) for Trust 4. Therefore, Trust 2, Trust 3, and Trust 4 were ineligible S
corporation shareholders and as a result, X’s S corporation election terminated on
Date 5.

  X represents that the circumstances resulting in the termination of its S

corporation election were inadvertent and were not motivated by tax avoidance.
PLR-110735-24 3

Additionally, X represents that X and its shareholders filed all returns consistent with
X’s status as an S corporation. X and its shareholder agreed 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) provides that a “small business corporation” means 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 § 1361(b)(1)(B), a trust all

of which is treated (under subpart E of part I 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 of
an S corporation. Section 1361(c)(2)(B)(i) provides that for purposes of § 1361(b)(1),
in the case of a trust described in § 1361(c)(2)(A)(i), the deemed owner shall be
treated as the shareholder.

  Section 1361(c)(2)(A)(ii) provides that, for purposes of § 1361(b)(1)(B), a trust

which was described in § 1361(c)(2)(A)(i) immediately before the death of the deemed
owner and which continues in existence after such death, may be an S corporation
shareholder, but only for the 2-year period beginning on the day of the deemed
owner’s death.

 Section 1361(c)(2)(A)(v) provides that for purposes of § 1361(b)(1)(B), an ESBT

may be an S corporation shareholder.

   Section 1361(d)(1) provides, in pertinent part, that a QSST whose beneficiary

makes an election under § 1362(d)(2) will be treated as a trust described in §
1361(c)(2)(A)(i), and the QSST’s beneficiary will be treated as the owner (for purposes
of § 678(a)) of that portion of the QSST’s S corporation stock to which the election
under § 1361(d)(2) applies.

    Section 1361(d)(2)(A) provides that a beneficiary of a QSST (or their legal

representative) may elect to have § 1361(d) apply. Under § 1361(d)(2)(D), the election
will be effective up to 15 days and two months before the date of the election.
PLR-110735-24 4

    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 such
beneficiary's death or the termination of the trust; and (iv) upon 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 1361(e)(1)(A) provides that, except as provided in § 1361(e)(1)(B), the

term “electing small business trust” means any trust if (i) such trust does not have as a
beneficiary any person other than (I) an individual, (II) an estate, (III) an organization
described in § 170(c)(2)-(5), or (IV) an organization described in § 170(c)(1) which
holds a contingent interest in such trust and is not a potential current beneficiary, (ii) no
interest in such trust was acquired by purchase, and (iii) an election under § 1361(e)
applies to such trust.

   Section 1361(e)(3) provides that an election under § 1361(e) shall be made by

the trustee. Any such election shall apply to the taxable year of the trust for which
made and subsequent taxable years of such trust unless revoked with the consent of
the Secretary.

   Section 1.1361-1(j)(6)(ii) provides that the current income beneficiary of a QSST

must make the election by signing and filing, with the service center with which the S
corporation files its income tax return, the applicable form or a statement that includes
the information listed in § 1.1361-1(j)(6)(ii).

    Section 1.1361-1(j)(6)(iii) provides, in apart, that a QSST election must be filed

within the time requirements of § 1.1361-1(j)(6)(iii)(A) through (D).

    Section 1.1361-1(m)(2)(i) of the Income Tax Regulations provides, in relevant

part, that the trustee of an ESBT must make the ESBT election by signing and filing,
with the service center where the S corporation files its income tax return, a statement
that meets the requirements of § 1.1361-2(m)(2)(ii).

   Section 1.1361-1(m)(2)(iii) provides that the trustee of an ESBT must file the

ESBT election within the time requirements prescribed in § 1.1361-1(j)(6)(iii) for filing a
QSST election (generally within the 16-day-and-2-month period beginning on the day
that the stock is transferred to the trust).

  Section 1362(a)(1) provides that, except as provided in § 1362(g), a small

business corporation may elect, in accordance with the provisions of § 1362, to be an
S corporation.
PLR-110735-24 5

  Section 1362(d)(2) provides that an election under § 1362(a) shall be

terminated whenever the corporation ceases to be a small business corporation. A
termination of an S corporation under § 1362(d)(2) is effective on and after the date of
cessation.

    Section 1362(f) provides, in relevant 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 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 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 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 representations made, we conclude

that X’s S corporation terminated on Date 5, when ineligible shareholders Trust 2,
Trust 3, and Trust 4 received shares of X. We further conclude that the termination of
X’s S election was inadvertent within the meaning of § 1362(f). Therefore, pursuant to
the provisions of § 1362(f), X will be treated as an S corporation effective Date 5, and
thereafter, provided X’s S corporation election is valid and not otherwise terminated
under § 1362(d).

   This relief is contingent on the trustees of Trust 2 and Trust 4 filing within 120

days from the date of this letter ESBT elections effective Date 5 and Date 7 for Trust 2
and Trust 4 respectively with the appropriate service center. A copy of this letter
should be attached to each ESBT election.

   This relief is also contingent on the beneficiary of Trust 3 filing a QSST election

with the appropriate service center within 120 days from the date of this letter effective
Date 6. A copy of this letter should be attached to the election.

   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 and the regulations thereunder. Specifically, we express or
imply no opinion regarding X’s eligibility to be an S corporation, the eligibility of Trust 2
or Trust 4 to be ESBTs, or Trust 3’s eligibility to be a QSST.
PLR-110735-24 6

  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.

  In accordance with a power of attorney on file with this office, we are sending a

copy of this letter to X’s authorized representatives.

                                                       Sincerely,


                                                       Richard T. Probst


                                                       _____________________________
                                                       Richard T. Probst
                                                       Senior Technician Reviewer, Branch 3
                                                       Office of the Associate Chief Counsel
                                                       (Passthroughs & Special Industries)

Enclosure
Copy for § 6110 purposes

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