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Analysis of Provision – Section 1371

Eligible Terminated S Corporation Period

When the S corporation status is terminated and the corporation continues to operate, the business is immediately treated

as a C corporation. Therefore, any earnings generated after the termination date create earnings and profits for the
C corporation. Also, any distribution made with respect to stock after the termination date would be from the C corporation
and subject to the dividend rules of IRC § 301(c).

To facilitate the transition to C corporation status, in 1982 IRC § 1371(e) was enacted to allow cash distributions during

the PTTP to be treated as a distribution from accumulated adjustments account (AAA) and, as such, to be tax-free up to
the shareholder’s basis in their stock. However, cash distributions in excess of the AAA will not be covered by the IRC

§ 1371(e) exception. The excess distributions will be treated as being made by the C corporation and subject to IRC
§ 301(c), i.e., they will be taxed as a dividend, assuming sufficient current year earnings & profits (CY E&P) or prior year

accumulated earnings & profits (AE&P). In general, the PTTP is only for about the first year after the S election is
terminated.

Under the provision 1371(f), Congress provided some transitional relief to certain “eligible terminated S corporations”.

For eligible terminated S corporations, any distribution of money outside the PTTP that is not sourced from CY E&P may
be sourced as a ratio of AAA and AE&P. Distribution of money from AAA will be tax-free up to the shareholder’s basis in

their stock.

An eligible terminated S corporation is any C corporation that:

(1) is an S corporation on December 21, 2017, and

(2) revokes its S corporation election under section 1362(a) during the two-year period beginning December 22,
2017, and

(3) has all the same owners (and in identical proportions) on the date the S corporation election is revoked as on
December 22, 2017.

Additional guidance is pending.

73233-102 13543-5 Tax Cuts and Jobs Act