Final regs. govern eligible terminated S corporation rules

By Sally P. Schreiber, J.D.

The IRS on Tuesday issued final regulations (T.D. 9914) under Secs. 481(d) and 1371(f) regarding the treatment of “eligible terminated S corporations” (ETSCs). The regulations provide guidance on the definition of an ETSC and rules relating to distributions of money by such a corporation after its post-termination transition period. They also amend the regulations under Sec. 1371(f) to extend the treatment of distributions of money during the post-termination transition period (PTTP) to all shareholders of the corporation and clarify the allocation of current earnings and profits to distributions of money and other property.

To make it easier for S corporations to revoke their S elections, Congress, as part of the law known as the Tax Cuts and Jobs Act (TCJA), P.L. 115-97, enacted Sec. 481(d)(1), which permits a corporation that qualifies as an ETSC to take into account any Sec. 481 adjustments that are attributable to the revocation of an S election over the Sec. 481(d) inclusion period — the six-tax-year period beginning with the year of change to an S corporation.

An ETSC is a C corporation meeting the following three requirements:

  • The corporation was an S corporation on Dec. 21, 2017;
  • The S corporation revoked its Sec. 1362(a) election to be an S corporation during the two-year period beginning on Dec. 22, 2017 (revocation requirement); and
  • The owners of the stock of the corporation, determined on the date the corporation made a revocation of its S election, are the same owners (and own identical proportions of the corporation’s stock) as on Dec. 22, 2017 (shareholder identity requirement).

The TCJA also added Sec. 1371(f), which extends the period during which an ETSC’s shareholders can benefit from the AAA generated during the corporation’s former status as an S corporation (ETSC period) by providing that, in the case of distributions of money following the PTTP:

  • The distributing ETSC’s AAA is allocated to a distribution of money to which Sec. 301 would otherwise apply (qualified distribution), and
  • The qualified distribution is chargeable to AE&P in the same ratio as the amount of the AAA bears to the amount of the AE&P.

Among the changes made in response to comments, the final regulations provide that, solely for revocations with retroactive effective dates, a revocation may be treated as having been made on the effective date of that revocation. Accordingly, a corporation may test compliance with the revocation requirement and the shareholder identity requirement on either the date the revocation was made or, in the case of a revocation with a retroactive effective date, the date the revocation was effective. This change clarifies who the shareholders are on the revocation date.

Another change was a clarification that Sec. 7503 applies to the requirement to make the revocation within two years. Thus, if the last day prescribed for making a revocation occurs on a Saturday, Sunday, or a legal holiday, Sec. 7503 applies in determining whether the revocation was made within the two-year period.

The regulations are effective when they are published in the Federal Register and apply to tax years beginning after that date (they have been submitted to the Federal Register, but a publication date has not yet been scheduled). A corporation may choose to apply the rules in their entirety to tax years beginning on or before the date they are published, but all the shareholders of the corporation must report consistently and the corporation must continue to apply the rules in their entirety for the corporation’s subsequent tax years.

Sally P. Schreiber, J.D., (Sally.Schreiber@aicpa-cima.com) is a Tax Adviser senior editor.

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