United States

Monitor shareholder activity to avoid S corporation terminations


Each week, the IRS releases its latest batch of private letter rulings. Invariably, each batch includes several rulings where the IRS grants relief to an S corporation that has realized that its Subchapter S election has inadvertently terminated. In most cases, the inadvertent termination can be traced to a failure on the corporation's part to monitor the activities of its shareholders.

These rulings are littered with situations where shareholders, unbeknownst to the company, have transferred shares to ineligible shareholders–partnerships, nonresident aliens, ineligible trusts, etc.

These transfers will typically cause an immediate termination of the company's S election, thereby impacting all of the company's shareholders. Fortunately, the IRS will typically grant relief to entities that realize that a termination has occurred.

However, this relief comes at a price–currently $28,300 for the IRS to issue a ruling.

It is much more economical for an S corporation to put safeguards in place to ensure that it becomes aware of any transfer of shares by an owner, particularly when a shareholder passes away. Putting these procedures in place will help avoid an inadvertent termination and the cost associated with fixing it.

Ed Decker


Ed advises on complex S corporation and partnership tax planning issues affecting pass-through entities. Reach him at ed.decker@rsmsus.com.

Areas of focus: Partnership Tax PlanningWashington National Tax