Five missed QSST elections caused an inadvertent S corporation termination

Plain-English summary

Five trusts acquired shares of an S corporation, and each trust was represented as eligible for qualified subchapter S trust treatment. The trusts' beneficiaries did not file the required QSST elections on time, causing the corporation's S election to terminate when the trusts became shareholders. The corporation and its shareholders continued filing consistently with S status, and the failures were represented as inadvertent and not tax-motivated. The IRS granted inadvertent-termination relief and treated the corporation as continuously maintaining S status. Each beneficiary had to file the applicable QSST election, effective from the share-transfer date, within 120 days.

Ruling snapshot

• Question: Could the corporation retain S status after five trust beneficiaries missed their QSST elections?
• Outcome: Approved as an inadvertent termination, conditioned on filing all five elections within 120 days.
• Key authorities: IRC §§ 1361(c), (d), 1362(d), (f); Treas. Reg. § 1.1361-1(j)(6)

Full text (IRS public release)

Internal Revenue Service                                       Department of the Treasury
                                                               Washington, DC 20224

Number: 201743012                                              Third Party Communication: None
Release Date: 10/27/2017                                       Date of Communication: Not Applicable
Index Number: 1362.04-00
                                                               Person To Contact:
------------------------------------                           -------------------------, ID No. -----------------
--------------------------------------                         -----------------------------------------------------
--------------------------------------                         Telephone Number:
------------------------                                       ----------------------
                                                               Refer Reply To:
                                                               CC:PSI:B3
                                                               PLR-106543-17
                                                               Date:
                                                               July 28, 2017

LEGEND

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

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

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

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

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

Trust 5           =        -----------------------------------------------------
                           -------------------------

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

D1                =        -----------------------

D2                =        ----------------------

D3                =        -----------------------

D4                =        ---------------------------
PLR-106543-17                                 2

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

       This letter responds to a letter dated February 21, 2017, submitted on behalf of
X, requesting a ruling under § 1362(f) of the Internal Revenue Code (Code).

       The information submitted states that X was incorporated under the laws of State
on D1 and elected to be an S corporation effective D2. In D3, each of Trust 1, Trust 2,
Trust 3, Trust 4 and Trust 5 were created. Each of Trust 1, Trust 2, Trust 3, Trust 4,
and Trust 5 received shares of X on D4. Trust 1, Trust 2, Trust 3, Trust 4 and Trust 5
have been shareholders of X at all times since D4.

        X represents that each of Trust 1, Trust 2, Trust 3, Trust 4 and Trust 5 have been
eligible to elect qualified subchapter S trust (QSST) treatment under § 1361(d).
However, the respective beneficiaries of the trusts inadvertently failed to timely make a
QSST election with respect to these trusts.

       X represents that the respective failures to file QSST elections were inadvertent
and not motivated by tax avoidance or retroactive tax planning. X further represents that
from D4, X and its shareholders have filed all returns consistent with X’s status as an S
corporation. 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 Secretary.

       Section 1361(a)(1) of the Code 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 the term “small business corporation” means
a domestic corporation which is not an ineligible corporation and which 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(d)(1) provides that in the case of a QSST for 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 the trust shall be
treated as the owner of that portion of the trust that 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) 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 corporation files its income tax returns the applicable form
or a statement including the information listed in § 1.1361-1(j)(6)(ii).
PLR-106543-17                                3

       Section 1362(d)(2) provides that (A) in general, 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, and (B) any termination under § 1362(d)(2) 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 (A) 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 (B) was terminated under § 1362(d)(2)
or (3), (2) the Secretary determines that the circumstances resulting in the
ineffectiveness or termination were inadvertent, (3) no later than a reasonable period of
time after discovery of the circumstances resulting in the ineffectiveness or termination,
steps were taken (A) so that the corporation is a small business corporation or (B) to
acquire the required shareholder consents, and (4) the corporation 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
ineffectiveness or termination, the corporation will be treated as an S corporation during
the period specified by the Secretary.

       Based solely on the facts submitted and the representations made, we conclude
that X’s S corporation election terminated on D4, because of the failure of the
beneficiaries of Trust 1, Trust 2, Trust 3, Trust 4 and Trust 5 to make the required QSST
elections with respect to the trusts. We further conclude that this termination of X’s S
corporation election was an inadvertent termination within the meaning of § 1362(f).
Accordingly, pursuant to the provisions of § 1362(f), X will be treated as continuing to be
an S corporation from D4 and thereafter, provided X’s S corporation election was valid
and not otherwise terminated under § 1362(d).

       This ruling is contingent upon the respective beneficiaries of Trust 1, Trust 2,
Trust 3, Trust 4 and Trust 5 filing QSST elections for Trust 1, Trust 2, Trust 3, Trust 4
and Trust 5, with an effective date of D4 with the appropriate service center within 120
days of the date of this ruling. A copy of this letter should be attached to each of the
QSST elections. If X or its shareholders fail to treat X as described above, this letter
ruling will be null and void.

       Except as specifically set forth above, no opinion is expressed concerning the
federal tax consequences of the facts described above under any other provision of the
Code, including whether X is a small business corporation under § 1361(b), or whether
Trust 1, Trust 2, Trust 3, Trust 4 or Trust 5 is a QSST within the meaning of
§ 1361(d)(3).
PLR-106543-17                                 4

       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.

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

       Pursuant to a power of attorney on file, a copy of this letter is being sent to X’s
authorized representative.

                                       Sincerely,



                                       Bradford R Poston
                                       Senior Counsel, Branch 3
                                       Office of Associate Chief Counsel
                                       (Passthroughs & Special Industries)

Enclosures: Copy of this letter
            Copy for § 6110 purposes


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