S-Corp Termination - Suspended Charter

[JohnH]

I think this has been discussed before on this forum, but I haven't been able to turn it up in a search. Hopefully someone can steer me to the discussion or else just set me straight.

It's my understanding that if an S-Corp has its state charter revoked and the corp does not take steps to reinstate, its S-Corp election is terminated. In NC, the process involves either a revenue suspension for failure to pay its franchise tax or an administrative dissolution for failure to comply with certain annual report requirements of the Sec of State. I believe either of these events would terminate the S-corp election but I can't find anything definitive on the issue. Anyone have any input or cites I can look to?

[Snaggletooth]

Status Comment

John - I'm wondering if the real question might be if a corporate status has been terminated by its secretary of state, isn't Federal Status for ANY KIND of corporation forced to cease? Why would only the S corp lose its status?

Recovation (instead of proper administrative termination) of the corporate charter at the hands of the Secretary of State usually means that all corporate protection is retroactively forfeited for those shareholders of record.

[JohnH]

Ron: It isn't clear to me either way. In NC, for example, a suspended or administratively dissolved corp can still legally wind down its affairs, so the state continues to recognize its existence but restricts what it can do. Also, if the corp later follows the procedures to reinstate, then once that process is completed the corp is restored to its original status just as though the suspension/dissolution never occurred. So as I see it, the corp under revenue suspension or adminstrative dissolution still exists, but its existence is under a cloud.

[BOB W]

Let's run with this for a minute..?? Even if a state issues a corporate charter but the operators do not operate as a corporation C or S, IRS has the right to not recognize the entity as a corporation. Right? So it appears that State status may not be the controling factor as far as the Federal is concerned.

Can an entity without a corporate charter act like a corporation and file corporate tax returns without a problem from IRS? I think yes. Will they have limited liability? NO- only states can issue that protection.

Over the years I have reactivated a corp that had an administrative dissolution. When the past due returns were filed I received a letter asking for a reinstatement application & fee ($60).

In summary, Federal elections are just that, Federal. It does not effect the state. I would say the S election does not terminate when the state terminates the corporate existence.

[JohnH]

I don't find anything on the subject in TTB, but the Master Tax Guide states in Paragraph 307 that "S-corporation status is automatically terminated if any event occurs that would prohibit the corporation from making the election in the first place."

This was cited to me as the basis for the assertion that suspension or revokation of the state charter would constitute a disqualifying event. There may be other more reliable information pro or con, but I can't find it (I'm still looking). Reinstatement would apparently solve the problem, but my question is directed at what happens if the corp does not reinstate.

[ChEAr$]

I don't find anything on the subject in TTB, but the Master Tax Guide states in Paragraph 307 that "S-corporation status is automatically terminated if any event occurs that would prohibit the corporation from making the election in the first place."

This was cited to me as the basis for the assertion that suspension or revokation of the state charter would constitute a disqualifying event. There may be other more reliable information pro or con, but I can't find it (I'm still looking). Reinstatement would apparently solve the problem, but my question is directed at what happens if the corp does not reinstate.

I second that notion, in that S corp status automatically terminates when secretary of
state yanks the charter. And if charter can be reinstated a new form 2553 should be
prepared to be on the safe side.

--------------------------------------------------------------
"The only person you should try to be better than is yourself."
------ Colonel Potter to Radar O'Reilly
(grin

[Snaggletoof]

Dissenting

I just wonder how thrilled the IRS would be to have 1120S returns filed with them for years and years, then suddenly have a C corp to file for a short year (say 5 months), then another S corp for remainder of that year and forward in perpetuity.

My guess is that they would rather brush their teeth with a cactus.

John's Master Tax Guide reference would lead you to believe the S corp status is terminated and a C corp to be filed, and I agree. But I really wonder how much grief the IRS would create if they were to have their auditor recalculate the effect of "leapfrog" filing.

Effective audit strategy: "Oh, I sorry Mr. Auditor, looks like we screwed up. We'll pay up. Just use your own calculation for that and put in your findings and..."

Unless there are big bucks involved, this is usually as far as the conversation gets.

[ChEAr$]

I just wonder how thrilled the IRS would be to have 1120S returns filed with them for years and years, then suddenly have a C corp to file for a short year (say 5 months), then another S corp for remainder of that year and forward in perpetuity.

I don't think "they", meaning IRS, would bat an eyelash. Each return would simply
be processed and none would be the wiser.

[JohnH]

Just to keep it interesting, let's suppose that an "S" corporation's charter was suspended in 2006 and the taxpayer didn't file either an1120S or an 1120 because they didn't know what to do and didn't have the money to pay a preparer for advice. So the 3 shareholders finally get worried and ask someone for advice. Let's further assume that the corp has little income or maybe even a loss for 2006, 2007, and 2008, there's no significant financial impact on the shareholders' individual returns.

They could file an 1120S for 2006 with no significant financial consequence to the corp. However, a late-filed 1120S for 2007 would incur a penalty of $3,060 and a 2008 return would be accumulating a penalty of about $269 per month. On the other hand a late-filed 1120 for 2007 and 2008 would incur no penalty for the loss years and only a 25% penalty for any small amount of tax due in a low-income year.

So there may be situations in which the answer to this question might actually benefit the shareholders if the suspension of the charter forced an involuntary termination of the s-corp election.

[BOB W]

OK you guys are correct> it appears that the S Election is lost as soon as its state charter is lost. No state charter - no corporation - not eligible to elect or maintain S status. A valid or invalid State Charter controls Corporate and S status for federal purposes.

Form 2553 instructions (Who is eligible) item 1, clearly says, it must be a domestic corporation. Domestic corporation can only exist by a state charter. Once the charter is lost, all else is lost. But if the state allows uninterupted continuation after a period of non filing, Federal would follow the states lead.

[ChEAr$]

OK you guys are correct> it appears that the S Election is lost as soon as its state charter is lost. No state charter - no corporation - not eligible to elect or maintain S status. A valid or invalid State Charter controls Corporate and S status for federal purposes.

Form 2553 instructions (Who is eligible) item 1, clearly says, it must be a domestic corporation. Domestic corporation can only exist by a state charter. Once the charter is lost, all else is lost. But if the state allows uninterupted continuation, Federal would follow the states lead.

From a long time ago when I was teaching income tax,j, I seem to remember that
if a business is conducting itself as a association (IRS words, not mine), then they could tax it appropriately as a corporation, regardless of state charter. And as i say, that was a long time ago, and I've never had occasion to look it up since.

So if that is still true, the 2007 return would be an 1120. OR, one could
argue that the "association" was really a partnership. Chances are that IRS
would never notice, unless the audit lottery threw the return out of the box onto
a desk somewhere.

[BOB W]

From a long time ago when I was teaching income tax,j, I seem to remember that
if a business is conducting itself as a association (IRS words, not mine), then they could tax it appropriately as a corporation, regardless of state charter. And as i say, that was a long time ago, and I've never had occasion to look it up since.

So if that is still true, the 2007 return would be an 1120. OR, one could
argue that the "association" was really a partnership. Chances are that IRS
would never notice, unless the audit lottery threw the return out of the box onto
a desk somewhere.

Thanks for your input. That was what my first post was talking about, to be taxed as a corporation if it acted like a corporation. Where I went wrong was thinking all 1120 forms are elegible to be an S Corp. ( If the other and ownership issues are satisfied). 2553 clearly says "Domestic Corporation". If you are no longer a Domestic Corporation (STATE CHARTERED) all is lost.