Corporation keeps S status after stock transfers to ineligible trusts

Plain-English summary

An S corporation transferred shares to seven trusts whose beneficiaries timely attempted to elect qualified Subchapter S trust status. The trust terms nevertheless allowed income accumulation and distributions to multiple beneficiaries, so the trusts were not eligible S corporation shareholders and the corporation's S election terminated. The trusts were later amended to require current income distributions to one beneficiary each. The IRS found the termination inadvertent and ruled that the corporation would continue to be treated as an S corporation. The relief is conditioned on each beneficiary filing a QSST election effective as of the original transfer date within 120 days.

Ruling snapshot

• Question: Can the corporation retain S status after shares were transferred to trusts that did not initially satisfy the QSST requirements?
• Outcome: Approved. The termination was inadvertent, subject to timely corrective QSST elections and any required adjustments.
• Key authorities: IRC §§ 1361(a), 1361(b), 1361(c), 1361(d), 1362(d), 1362(f).

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 202516002 Third Party Communication: None
Release Date: 4/18/2025 Date of Communication: Not Applicable
Index Number: 1362.04-00
Person To Contact:
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------------------------------------- Telephone Number:
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----------------------------------- Refer Reply To:
CC:PSI:B03
PLR-112728-24
Date:
January 10, 2025

Legend

X = -----------------------------
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Trust 1 = ----------------------------------------------------
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Trust 2 = ----------------------------------------------------
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Trust 3 = ----------------------------------------------------
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Trust 4 = ----------------------------------------------------
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Trust 5 = ----------------------------------------------------
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Trust 6 = ----------------------------------------------------
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Trust 7 = ----------------------------------------------------
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Date 1 =
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Date 2 =
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Date 3 =
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State =

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

   This letter responds to a letter dated June 12, 2024, and subsequent

correspondence, submitted on behalf of X by its authorized representative, requesting a
ruling under § 1362(f) of the Internal Revenue Code (Code).

                                              FACTS
   The information submitted states that X was incorporated under the laws of State

on Date 1 and elected to be an S corporation effective Date 1. On Date 2, shares of X
stock were transferred to each of Trust 1, Trust 2, Trust 3, Trust 4, Trust 5, Trust 6, and
Trust 7 (collectively, the Trusts). The provisions of each Trust were substantially
identical, other than the designated beneficiaries. The beneficiary of each Trust made a
timely election to treat each of the respective Trusts as a qualified Subchapter S Trust
(QSST) under section 1361(d) of the Code, effective Date 2. However, the terms of
each of the Trusts on Date 2 permitted the trustee to accumulate net income, and in
addition granted the trustee discretion to distribute net income and principal to multiple
beneficiaries. Due to one or more of these provisions, X later concluded that the Trusts
were not eligible QSSTs and were therefore ineligible S corporation shareholders,
causing X's S corporation election to terminate on Date 2. On Date 3, the terms of each
of the Trusts were amended to require the distribution of all net income (and in the
discretion of the trustee, principal) to a single beneficiary during their lifetime.
PLR-112728-24 3

    X represents that the circumstances resulting in the termination of its

S corporation election were inadvertent and were not motivated by tax avoidance or
retroactive tax planning. X also represents that X and its shareholders have filed all
returns consistent with X’s status as an S corporation, and that each of the Trusts has
filed all returns consistent with having been a QSST since Date 2. X and each
shareholder agree to make any adjustments required by the Secretary as a condition of
obtaining relief under § 1362(f).

                                 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 that is not an ineligible corporation and that 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) as owned by an individual who is a citizen or
resident of the United States may be a shareholder.

   Section 1361(d)(1) provides 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.
Under § 1361(d)(2)(D), this election will be effective up to 15 days and two months
before the date of the election.

    Section 1361(d)(3) provides that for purposes of § 1361(d), the term ““qualified

subchapter S trust” means a trust (A) the terms of which require that — (i) during the life
of the current income beneficiary, there shall be only 1 income beneficiary of the trust;
(ii) any corpus distributed during the life of the current 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 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 1 individual who is a citizen or resident of the United States.
PLR-112728-24 4

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

terminated whenever (at any time on or after the 1st day of the 1st taxable year for
which the corporation is an S corporation) such corporation ceases to be a small
business corporation.

    Section 1362(f) provides, in relevant part, that if (1) an election under § 1362(a)

by any corporation was terminated under § 1362(d)(2); (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 such
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 the corporation at any time during
the period specified pursuant to § 1362(f), agrees to make any adjustments (consistent
with the treatment of the corporation as an S corporation) as may be required by the
Secretary with respect to the 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.

                                 CONCLUSION
   Based solely on the facts submitted and representations made, we conclude

that X's S corporation election terminated on Date 2 when shares of X stock were
transferred to the Trusts, which were ineligible S corporation shareholders. We further
conclude that the circumstances resulting in the termination of X's S corporation election
were inadvertent 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 valid and has not otherwise terminated under § 1362(d) for
reasons not addressed in this letter.

    This ruling is contingent on the beneficiary of each of the Trusts filing a QSST

election effective Date 2 for each of their respective Trusts with the appropriate service
center within one hundred-twenty (120) days from the date of this letter. A copy of this
letter should be attached to each QSST 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. 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.
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  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 a power of attorney on file with this office, we are sending a copy of

this letter to your authorized representatives.

                                          Sincerely,


                                               /s/

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

Enclosure:
Copy of this letter for § 6110 purposes

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