A living trust can own an S corporation, but specific conditions must be met. The trust must be a grantor trust, meaning the person who created the trust is considered the owner of the trust’s assets for income tax purposes. The trust must also comply with IRS rules for S corporation ownership, which are designed to ensure that the number and type of shareholders meet certain criteria.

An owner of a small, family business taxable as an S Corp typically wants to own their stock in a living trust so that the stock will pass to their heirs without probate. A prolonged probate proceeding may substantially interfere with a smooth business continuation after the owner’s death.

Your living trust can own S Corp stock during your lifetime because the IRS considers you, individually, to be the stock owner for tax purposes. But, there are income tax issues when your living trust becomes irrevocable after your death.

IRS Rules About S Corps Owned by Irrevocable Trusts

The IRS tax code limits ownership of S Corp shares to individuals or to grantor trusts taxed as individuals. The Code generally prohibits ownership by an irrevocable trust. An exception to this general rule where the trust is a qualifying subchapter S trust (“QSST”). A QSST must hold no assets other than S Corp stock, and the trust must provide for mandatory distribution of income.

Your living trust that holds S Corp stock together with your real estate and publicly traded stocks would not qualify as a QSST. You would lose S Corp treatment of your stock and may suffer adverse income tax effects.

You may have more than one living trust. You may consider a separate living trust to hold your S Corp stock. Alternatively, a living trust agreement should provide that after your death the stock is segregated into a separate sub-trust that qualifies as a QSST.