IRA rollovers of S Stock.

• Author: O'Connell, Frank J., Jr.
• Position: S corporations

In Letter Ruling 200122034, the IRS ruled that a rollover of S stock into an IRA does not terminate the corporation's S status if it were to repurchase the stock immediately. In this ruling, XYZ Company maintained an employee stock ownership plan (ESOP) since year 1, under which it established a trust to hold XYZ stock for the ESOP. The trust had acquired all of XYZ's shares by the end of year 2. In addition, by the end of year 2, XYZ elected S status.

Under the ESOP's terms, the plan could make distributions to participants in cash or XYZ stock. However, as long as XYZ remained an S corporation, it would have to immediately purchase any distributed stock. The terms also allowed participants receiving a distribution to roll it over directly into an IRA or other qualified plan as required under Sec. 401(a)(31). Alternatively, a participant who received and sold XYZ stock to XYZ could, within 60 days, roll over the proceeds into an IRA or other qualified plan via an indirect rollover.

In a direct or indirect rollover, a participant or a participant's IRA, qualified-plan custodian or trustee had to complete an irrevocable stock transfer form. The form was prepared specifically for each participant receiving an ESOP distribution and identified the number of shares and the dollar value to be sold to XYZ immediately following the distribution. XYZ prepared a stock certificate and a check for each participant receiving a distribution. Because the stock distribution and corresponding repurchase occurred on the same day, the stock certificate did not leave XYZ's office. As such, XYZ could monitor the timing of stock distributions from the ESOP and ensure that it never exceeded the 75-shareholder limit.

XYZ requested a ruling on whether its S status would terminate if the ESOP made XYZ stock distributions and one or more participants elected to make a direct rollover of the distribution to an IRA, provided XYZ purchased the stock immediately, under the above procedures.

Under Sec. 1361(b) (1) (B), an S corporation may not have a shareholder that is not an estate, a trust described in Sec. 1361(c)(2), an organization described in Sec. 1361(c)(6) or an individual. In addition, Rev. Rul. 92-73 held that an IRA is not a permitted S shareholder. Under Sec. 1361(c)(6), for purposes of Sec. 1361(b) (1) (B), an organization described in Sec. 401 (a) or 501(c)(3), and...