TERMINATION OF ELECTION WAS INADVERTENT.

Index Number: 1362.04-00

[1] This letter responds to a letter dated November 14, 2000, submitted on behalf of X, requesting inadvertent termination relief under section 1362(f) of the Internal Revenue Code.

FACTS

[2] X was incorporated on D1 under the laws of State. X elected to be an S corporation, effective D2.

[3] A, a shareholder of X, died on D3 and his shares of X stock were transferred to his estate. On D4, A's estate distributed all of the X stock to a Trust. It was intended that the Trust be treated as a qualified subchapter S trust (a QSST) as defined in section 1361(d)(3). However, due to an oversight, B, the beneficiary of the Trust, did not make a timely QSST election under section 1361(d)(2), thereby terminating X's S corporation election on D4. In D5, X's counsel discovered that B had not made a QSST election for Trust. Subsequently, X submitted this ruling request for inadvertent termination relief under section 1362(f).

[4] X and B represent that the transfer of stock to the Trust and the subsequent failure to file the QSST election were not motivated by tax avoidance or retroactive tax planning. Further, X and its shareholders represent that from D4 until the present, X, the beneficiary of the Trust, and the other shareholders have all filed, or will file, returns consistent with X's status as an S corporation. X and its shareholders have agreed to make any adjustments that the Commissioner may require consistent with the treatment of X as an S corporation.

LAW AND ANALYSIS

[5] Section 1361(a)(1) defines an "S" corporation as a small business corporation for which an election under section 1362(a) is in effect for such year.

[6] Section 1361(b)(1)(B) provides that a "small business corporation" means a domestic corporation that is not an ineligible corporation and that does not have as a shareholder a person (other than an estate, a trust described in section 1361(c)(2), or an organization described in section 1361(c)(6)) who is not an individual.

[7] Section 1361(c)(2)(A)(i) provides that 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 subchapter S corporation shareholder.

[8] Section 1361(d)(1) states that a QSST whose beneficiary makes an election under section 1361(d)(2) will be treated as a trust described in section 1361(c)(2)(A)(i), and the QSST's beneficiary will be treated as the owner (for purposes of section 678(a)) of that portion of the QSST's S corporation stock to which the election under section 1361(d)(2) applies.

[9] 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 the termination of the trust during the life of the current income beneficiary, the trust shall distribute all of its assets to such beneficiary, and (B) all of the income (within the meaning of section 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.

[10] Under section 1361(d)(2)(A), the beneficiary of a QSST may elect to have section 1361(d) apply. Under section 1361(d)(2)(D), this election will be effective up to 15 days and two months before the date of the election.

[11] Under section 1362(d)(2), an election to be an S corporation will be terminated whenever the corporation ceases to be a small business corporation.

[12] Section 1.1361-1(j)(6)(iii)(D) of the Income Tax Regulations provides that if a corporation's S election terminates because of a late QSST election, the corporation may request inadvertent termination relief under section 1362(f).

[13] Section 1362(f), in relevant part, provides that, if: (1) an election under section 1362(a) by any corporation was terminated under section 1362(d); (2) the Secretary determines that the termination was 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 is a small business corporation; and (4) the corporation, and each person who was a shareholder in the corporation at any time during the period specified pursuant to section 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 such 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.

[14] The Committee reports accompanying the Subchapter S Revision Act of 1982 explain section 1362(f) as follows:

     If the Internal Revenue Service determines that a corporation's

[15] Based on the facts presented and representations made, we conclude that X's S corporation election terminated on D4, because B failed to make a timely QSST election under section 1361(d)(2). We also conclude that the termination was inadvertent within the meaning of section 1362(f). Therefore, under section 1362(f), X will be treated as an S corporation from D4 and thereafter, assuming X's S corporation election is valid and is not otherwise terminated under section 1362(d). However, this ruling is contingent on B filing a QSST election, with an effective date of D4, with the appropriate service center within 60 days of the date of this ruling. A copy of this letter must be attached to the QSST election.

[16] If Trust files a valid QSST election Trust will be treated as a trust described in section 1361(c)(2)(A)(i), and B will be treated under section 678 as the owner of the portion of Trust consisting of X stock during the period from D4 and thereafter assuming Trust satisfies the QSST requirements. Accordingly, the shareholders of X must include their pro rata share of the separately and nonseparately computed items of X under section 1366, make any adjustments to stock basis under section 1367, and take into account any distributions made by X to shareholders under section 1368. If X, Trust, or any of X's shareholders fail to treat X as described above, this ruling will be null and void.

[17] 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. Specifically, no opinion is expressed on whether X's original election to be an S corporation was a valid election under section 1362 or whether Trust is a QSST within the meaning of section 1361(d)(3).

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

[19] Under a power of attorney on file with this office, we are sending a copy of this letter to X.

                                   Sincerely,