[EstGift] S corp - closing the books mid-year

[Day, Eileen]

Hi all.

We have a grantor trust that we would like to toggle to a non-grantor trust. In addition, we would like to elect to close the books of an S corporation mid-year under 1377(a)(2) for the grantor trust, based on a complete termination of shareholder interest. There will be a significant capital gain event later in the year which we wish to isolate in a non-grantor trust, not taxable to the grantor.

The regulations say that simply converting from one type of eligible S corp shareholder to another type of eligible S corp shareholder is not a termination of the trust shareholder’s interest. So simply turning off grantor trust status will not allow us to close the books mid-year.

The only feasible way to achieve a complete termination of the trust’s interest seems to be to transfer the stock to a non-grantor trust. The regulation says a complete termination can be achieved through:
the occurrence of any event through which a shareholder's entire stock ownership in the S corporation ceases, including a sale, exchange, or other disposition of all of the stock held by the shareholder; a gift under section 102(a) of all the shareholder's stock; a spousal transfer under section 1041(a) of all the shareholder's stock; a redemption, as defined in section 317(b), of all the shareholder's stock, regardless of the tax treatment of the redemption under section 302; and the death of the shareholder.”

The trust specifically permits a transfer from the trust to any other trust, so long as the transferee trust is for the benefit of one or more of a specified class of people. The Trustee could create such a trust and transfer, by way of distribution, to such new trust, designed to be a non-grantor trust.

Any experience in using such a technique to enable closing the books of the S corporation upon transfer to the new trust?  A similar approach would be to use a state decanting statute to decant to a non-grantor trust. Any experience using decanting to achieve a complete termination of a shareholder trust’s interest and close the books early?

Thank you for any thoughts.

Eileen

Eileen M. Day
Partner

STINSON LLP
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