Corporation retained S status after a trust missed its ESBT election

Plain-English summary

An S corporation's stock was held by a grantor trust whose deemed owner died. The trust remained an eligible S corporation shareholder for two years after the death but then missed the deadline to elect electing small business trust status. That lapse technically terminated the corporation's S election until the stock was later transferred to trusts that qualified as eligible shareholders. The corporation represented that the failure was inadvertent, was not motivated by tax avoidance, and would be corrected through any required adjustments. The IRS granted inadvertent termination relief, treated the corporation as continuously eligible for S status, and treated the original trust as an ESBT for the affected period.

Ruling snapshot

• Question: Was the S corporation's termination caused by the missed ESBT election inadvertent?
• Outcome: Approved
• Key authorities: IRC §§ 1361 and 1362; Treas. Reg. § 1.1361-1

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202526007 Third Party Communication: None
Release Date: 6/27/2025 Date of Communication: Not Applicable
Index Number: 1362.00-00, 1362.04-00
Person To Contact:
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----------------------------------- Telephone Number:
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------------------------------------------------------------ Refer Reply To:

• CC:PTE:B01
  PLR-117862-24
  In Re: Private Letter Ruling Request Date:
  April 2, 2025

                                            LEGEND
  

X = ----------------------------------------------------
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Trust 1 = ----------------------------------------------------
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Trust 2 = -----------------------------------

Trust 3 = ----------------------------------------------------
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H = ----------------------------------------------------
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W = ----------------------------------------------------
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State = -------------

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

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

Date 3 = -------------------
PLR-117862-24 2

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

This letter responds to a letter dated September 27, 2024, and subsequent
correspondence, submitted on behalf of X by its authorized representatives, requesting
relief under § 1362(f) of the Internal Revenue Code (Code).

                                     FACTS

The information submitted states that X is a corporation that made an election to be
treated as a subchapter S corporation. Prior to H’s death on Date 1, all of the stock in X
was community property held by Trust 1, a grantor trust described in § 1361(c)(2)(A)(i)
(under subpart E of part I of subchapter J of chapter 1 of the Code) of which H and W
were the deemed owners. Following H’s death on Date 1, Trust 1 qualified under § 1361
(c)(2)(A)(ii) as an eligible shareholder for two years from H's date of death. However,
Trust 1 continued to hold the X stock after the two-year period. X represents that Trust 1
qualified to elect to be treated as an electing small business trust (ESBT) as of Date 2,
the day after the two-year period following H’s death. However, the trustee of Trust 1
failed to make a timely ESBT election under § 1361(e)(3) effective Date 2.
Consequently, Trust 1 was an ineligible shareholder of X thereby causing X’s S
corporation status to terminate on Date 2.

On Date 3, the assets of Trust 1, including the X stock, were transferred to Trust 2 and
Trust 3. Trust 2 is treated (under subpart E of part I of subchapter J of chapter 1 of the
Code) as a grantor trust owned by W. X represents that Trust 3 meets the requirements
of a qualified subchapter S trust (QSST) within the meaning of § 1361(d)(3). Further, W,
the income beneficiary of Trust 3, timely made an election under § 1361(d)(2) to treat
Trust 3 as a QSST effective Date 3.

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. X and its shareholders have agreed to make such adjustments, consistent
with the treatment of X as an S corporation, as may be required by the Service.

                             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 the term “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 one class of stock.
PLR-117862-24 3

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 of the Code) 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)(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 a shareholder of an S
corporation, 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
a shareholder.

Section 1361(d)(1) provides, in part, that in the case of a QSST with respect to which a
beneficiary makes an election under § 1361(d)(2), the trust is 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 1.1361-1(j)(6)(ii) of the Income Tax Regulations provides that
the current income beneficiary of a QSST 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
returns the applicable form or statement including the information listed in § 1.1361-
1(j)(6)(ii).

Section 1.1361-1(j)(6)(iii)(A) provides that the QSST election must be made within the
16-day-and-2-month period beginning on the day that the stock is transferred to the
trust.

Section 1361(e) provides that an ESBT 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 paragraph (2), (3), (4), or (5) of § 170(c), 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
all subsequent taxable years of such trust unless revoked with the consent of the
Secretary.

Section 1.1361-1(m)(2)(i) provides 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 § 1.1361-1(m)(2)(ii).
PLR-117862-24 4

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
qualified subchapter S trust election (within the 16-day-and-2-month period beginning
on the day that the stock is transferred to the trust).

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 the
corporation is an S corporation) such corporation ceases to be a small business
corporation. Section 1362(d)(2)(B) provides that any termination under § 1362(d)(2)(A)
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 not effective for the taxable year for which made (determined without
regard to § 1362(b)(2)) by reason of a failure to meet the requirements of § 1361(b) or
to obtain shareholder consents or was terminated under § 1362(d)(2), (2) the Secretary
determines that the circumstances resulting in such ineffectiveness or termination were
inadvertent, (3) no later than a reasonable period of time after discovery of the
circumstances resulting in such ineffectiveness or termination, steps were taken so that
the corporation for which the election was made or the termination occurred is a small
business corporation or to acquire the required shareholder consents, and (4) the
corporation for which the election was made or the termination occurred, and each
person who was a shareholder in such corporation at any time during the period
specified pursuant to § 1362(f), agrees to make the adjustments (consistent with the
treatment of such corporation as an S corporation) as may be required by the Secretary
with respect to such period, then, notwithstanding the circumstances resulting in such
ineffectiveness or termination, such 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
election to be treated as an S corporation terminated on Date 2, after the two-year
period following H's death. We also conclude that the termination constituted an
inadvertent termination within the meaning of § 1362(f). Accordingly, X will be treated as
continuing to be an S corporation from Date 2, and thereafter, provided that X's S
corporation election was otherwise valid and was not otherwise terminated under
§ 1362(d). In addition, Trust 1 will be treated as an ESBT from Date 2 until Date 3.

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 whether X is otherwise
eligible to be an S corporation. In addition, we express or imply no opinion as to whether
Trust 3 is eligible to elect to be treated as a QSST.
PLR-117862-24 5

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 upon examination.

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.

In accordance with the power of attorney on file with this office, we are sending copies
of this letter to X's authorized representatives.

                                             Sincerely,




                                            Jennifer Keeney
                                            Senior Counsel, Branch 1
                                            Office of Associate Chief Counsel
                                            (Passthroughs, Trusts, and Estates)

Enclosure
Copy of letter for § 6110 purposes

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