Only certain types of irrevocable trusts can be S corporation shareholders. The IRS code that determines a trust’s eligibility and operating rules is complex and subject to change. The IRS will revoke your S corporation status if the trust does not meet or continue to comply with the IRS rules. In that case, you must meet the IRS conditions and go through their procedures to have the termination lifted and your S corporation status restored.
Irrevocable Trust Qualifications
Irrevocable trusts must meet IRS qualifications to own S corporation stock. The trust grantors must be resident aliens or US citizens. A non-US citizen or non-resident alien cannot circumvent IRS regulations by forming a trust to try to get around the resident or citizenship rules. Although the trust is considered one stockholder, the IRS can limit the number of grantors that can own the trust.
Irrevocable Grantor Trusts
An irrevocable grantor trust can own S corporation stock if it meets IRS regulations. The trust must contain language stating that all the ordinary income the trust earns along with the original trust assets are owned by the trust grantor. For federal tax purposes, if the trust has two or more grantors, only one can be the trust owner. If the trust owner designation is not made or is unclear, the trust will not qualify under IRS regulations. An irrevocable grantor trust does not have to make an election to be an S corporation shareholder.
Qualified Subchapter S Trusts
To meet IRS regulations, a Qualified Subchapter S Trust -- QSST -- can name only one beneficiary who will receive the income earned by the trust. The IRS allows an exception in that a husband and wife are considered one income beneficiary as long as both are resident aliens or US citizens and they file a joint income tax return. Only the income beneficiary can receive a distribution of S corporation stock shares and QSST income. The income beneficiary must file an election with the IRS to receive a QSST designation.
Electing Small Business Trusts
The IRS allows Electing Small Business Trusts -- ESBT -- to have multiple owners. The owners can be resident aliens or U.S. citizens, qualifying charities, and estates. However, no person or entity can become an owner by buying a share of the trust. ESBT can accumulate and distribute trust income to the beneficiaries. For taxation purposes, the trust is treated as a separate entity and is taxed at the highest rate. The trustee must make an election to receive the ESBT designation.
- The Rushforth Firm Estate Planning: Irrevocable Trusts - S Corporation Stock
- Jensen Law Office: Irrevocable Grantor Trust
- Lawyers.com: Qualified Subchapter S Trust (QSST)
- American Bar Association: What Types of Trusts Are Permitted Shareholders of an S Corporation? Electing small business trusts – Page 7
Based in St. Petersburg, Fla., Karen Rogers covers the financial markets for several online publications. She received a bachelor's degree in business administration from the University of South Florida.