Late ESBT election received conditional S corporation relief

Plain-English summary

A trust acquired S corporation shares from an estate but failed to make a timely electing small business trust election, terminating the corporation's S status. The IRS found the termination inadvertent and treated the corporation as continuing to be an S corporation. Relief required the trust to file its ESBT election within 120 days, and the corporation, shareholders, and trust had to file original or amended returns and make adjustments consistent with S corporation and ESBT treatment. The ruling also required a redacted payment to the IRS by a specified date.

Ruling snapshot

• Question: Could the corporation receive inadvertent-termination relief after its shareholder trust missed the ESBT election deadline?
• Outcome: Approved, subject to the ESBT filing, return adjustments, and required payment.
• Key authorities: IRC §§ 1361(e), 1362(f), and 1366 through 1368; Treas. Reg. § 1.1361-1(m)(2).

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201819002 Third Party Communication: None
Release Date: 5/11/2018 Date of Communication: Not Applicable
Index Number: 1361.00-00, 1361.03-00,
1361.03-03, 1362.00-00, Person To Contact:
1362.04-00 ----------------------------,
ID No. ---------------
------------------------------------------- Telephone Number:
----------------------------------- --------------------
-------------------------- Refer Reply To:
------------------------------- CC:PSI:B01
PLR-121314-17
Date:
January 05, 2018

LEGEND

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

Trust = ---------------------------------------------------

State = ------

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

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

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

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

$n = -------------

Year = ------

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

   This responds to a letter dated July 7, 2017, and subsequent correspondence,

submitted on behalf of X, by X’s authorized representative, requesting relief under
section 1362(f) of the Internal Revenue Code.

PLR-121314-17 2

Facts

   According to the information submitted and representations made within, X was

incorporated and made a valid S corporation election effective Date 1, under the laws of
State.

   On Date 2, Trust acquired shares of X from an estate pursuant to the terms of a

will. X represents that Trust has at all times since Date 2 met the requirements of an
Electing Small Business Trust (ESBT) except that the trustees of Trust did not make a
timely ESBT election under §1361(e)(3), thus causing X’s S corporation election to
terminate effective Date 3.

   X represents that X and its shareholders have treated X as an S corporation at all

relevant times. X represents that the failure to file an ESBT election for Trust was
inadvertent and was not motivated by tax avoidance or retroactive tax planning.
Further, X represents that X and its shareholders agree to make any adjustments
(consistent with the treatment of X as an S corporation) that 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 1
class of stock.

  Section 1361(c)(2)(A)(iii) provides that a trust may be an S corporation

shareholder with respect to stock transferred to it pursuant to a will, but only for the 2-
year period beginning on the day on which such stock is transferred to it.

 Section 1361(c)(2)(A)(v) provides that, for purposes of § 1362(b)(1)(B), an ESBT

may be an S corporation shareholder.

  Section 1361(e)(1)(A) 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)

PLR-121314-17 3

an organization described in § 170(c)(2), (3), (4), or (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)(1)(B) provides that an ESBT does not include (i) any qualified

subchapter S trust (as defined in § 1361(d)(3)) if an election under § 1361(d)(2) applies
to any corporation the stock of which is held by such trust, (ii) any trust exempt from tax
under subtitle A, and (iii) any charitable remainder annuity trust or charitable remainder
unitrust (as defined in § 664(d)).

   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) 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 § 1.1361-1(m)(2)(ii). Generally, only one ESBT election
is made for the trust, regardless of the number of S corporations whose stock is held by
the ESBT. However, if the ESBT holds stock in multiple S corporations that file in
different service centers, the ESBT election must be filed with all the relevant service
centers where the corporations file their income tax returns. This requirement applies
only at the time of the initial ESBT election; if the ESBT later acquires stock in an S
corporation which files in a different service center, a new ESBT election is not required.

   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(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); (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 termination occurred
is a small business corporation; and (4) the corporation for which 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

PLR-121314-17 4

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 the representations made, we conclude

that X’s S election terminated on Date 3 because of the failure of Trust to timely file an
ESBT election. We further conclude that the termination of X’s S election was
inadvertent within the meaning of § 1362(f). Therefore, X will be treated as an S
corporation effective Date 3 and thereafter, provided X’s S corporation election is
otherwise valid and not otherwise terminated under § 1362(d).

    This letter ruling is subject to the condition that within 120 days from the date of

this letter, an election to treat Trust as an ESBT effective Date 3, must be made with the
appropriate service center. A copy of this letter should be attached to the ESBT
election. If this condition is not met, then this ruling is null and void. Furthermore, if this
condition is not met, X must send notification that its S election has terminated to the
service center with which X’s S election was filed.

   Accordingly, the shareholders of X must include in their income their pro rata

share of separately stated and nonseparately computed items of X as provided in §
1366 and make any adjustments to basis as provided in § 1367, and take into account
any distributions made by X as provided in § 1368. This ruling is contingent upon X and
each of its shareholders filing any original and amended returns and making such
adjustment that are necessary to properly reflect the reporting of X’s items of S
corporation income. Specifically, Trust must file income tax returns and make
adjustments that are necessary to properly reflect the treatment of Trust as an ESBT.

    Additionally, as an adjustment under § 1362(f)(4), a payment of $n and a copy of

this letter must be sent to the following address: Internal Revenue Service, Cincinnati
Service Center, 201 West Rivercenter Blvd., Covington, KY 41011, Stop 31, Terri
Lackey, Manual Deposit. This payment and a copy of this letter must be sent no later
than Date 4.

     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. Specifically, we express or imply no opinion regarding X’s
eligibility to be an S corporation or Trust’s ability to be an ESBT from Year onward.

  The rulings contained in this letter are 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 request for rulings, it is subject to verification on
examination.

PLR-121314-17 5

  This ruling is directed only to the taxpayer who requested it. According to §

6110(k)(3), this ruling may not be used or cited as precedent.

    Pursuant to the power of attorney on file with this office, we are sending a copy of

this letter to your authorized representatives.

                                      Sincerely,

                                      Joy C. Spies

                                      Joy C. Spies
                                      Senior Technician Reviewer, Branch 1
                                      Office of Associate Chief Counsel
                                      (Passthroughs & Special Industries)

Enclosures (2)

   Copy of this letter
   Copy of this letter for section 6110 purposes

cc: