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The Small Business Job Protection Act of 1996 (SBJPA) granted the IRS authority to waive an invalid late S election.Thus, the Service could treat a late-filed election as timely, if it was determined a reasonable cause existed for the failure to make a timely election.
Previously, by law, the IRS could accept late-filed elections as effective only for the next calendar or fiscal period. This had significant consequences for start-up companies incurring losses; C corporation losses would be confined to the regular corporation and could not be used unless the S election was revoked within the time frame allowed for the net operating loss carryforward period. If the first-year C corporation generated profits and appreciation of assets, the corporation could be subjected to a 10-year holding period to avoid the Sec. 1374 built-in gains tax. The C corporation and individual shareholders would be required to prepare and file amended tax returns for the open tax years if the Service notified the corporation that a valid Form 2553, Election by a Small Business Corporation (Under section 1362 of the Internal Revenue Code), was not on file. A certified mail receipt was virtually the only method of providing evidence that a Form 2553 was timely filed.
The SBJPA provided the basis for the IRS to issue Rev. Procs. 97-40 and 97-48 on how to obtain automatic relief for late-filed S elections. A corporation is eligible for relief under Rev. Proc. 97-40 if.
1. The sole reason to fail to qualify as an S corporation is the result of Form 2553 being filed late (as defined by Sec. 1362(b)(1)); and
2. The due date for the tax return (excluding extensions) for the first intended S year has not passed.
The disclosure requirements (to be filed with the applicable IRS Service Center) to obtain relief are:
1. Within six...