(e) ELECTION IRREVOCABLE.-Except as provided in subsection (f), the election described in subsection (a) shall be irrevocable

(1) with respect to an enterprise as to which such election has been made and the proprietor or partners of such enterprise; and

(2) any unincorporated successor to the business of such enterprise and the proprietor or partners of such successor.

(f) CHANGE OF OWNERSHIP. In any year in which the electing proprietor or partners have an interest of 80 percent or less in profits and capital of an enterprise described in subsection (e), such enterprise shall not be considered a domestic corporation for such year or for subsequent years unless the proprietor or partners of such enterprise make a new election in accordance with subsection (a).

(g) CONSTRUCTIVE OWNERSHIP. For purposes of subsection (f), the ownership of an interest shall be determined in accordance with the rules for constructive ownership of stock provided in section 267 (c) other than paragraph (3) thereof.

(h) IMPOSITION OF TAXES.-The unincorporated business enterprise as to which an election has been made under subsection (a) shall be subject to

(1) the normal tax and surtax imposed by section 11,

(2) the accumulated earnings tax imposed by section 531, and (3) the alternative tax for capital gains imposed by section 1201. (i) PERSONAL HOLDING COMPANY INCOME.

(1) EXCLUDED FROM INCOME OF ENTERPRISE.-There shall not be included in the gross income of the enterprise as to which an election has been made under subsection (a) any personal holding company income (as defined in section 543), except income earned by such enterprise from buying and selling real property, stock, securities, or commodities for the account of others.

(2) INCOME AND DEDUCTIONS OF OWNERS.-Any personal holding company income not included in the gross income of the enterprise under paragraph (1), and the expenses attributable thereto, shall be treated as the income and deductions of the proprietor or partners (in accordance with their distributive shares of partnership income) of such enterprise.

(3) DISTRIBUTIONS.-If the amount of personal holding company income includible under paragraph (2) in the income of the proprietor or partner is distributed to him during the year earned, such amount shall not be taxed as a corporate distribution. The amount of such income not distributed during such year shall be considered as paid-in surplus or as a contribution to capital as of the close of such year.

(4) RENTS AND ROYALTIES.-For the purpose of determining whether rents, and mineral, oil, or gas royalties constitute personal holding company income under paragraph (1), all income earned by the enterprise in any taxable year shall enter into the determination of its gross income for such year.

(j) COMPUTATION OF TAXABLE INCOME.-In computing the taxable income of an unincorporated business enterprise as to which an election has been made under subsection (a)

(1) a reasonable deduction shall be allowed for salary or compensation to a proprietor or partner for services actually rendered and

(2) there shall be allowed as deductions only such items properly allocable to the operation of the business of such enterprise, except deductions allocable to the proprietor or partners under subsection (i) (2).

(k) DISTRIBUTIONS OTHER THAN IN LIQUIDATION.-Except as provided in subsection (1), a distribution with respect to a proprietorship or partnership interest by an enterprise as to which an election has been made under subsection (a), other than a distribution of personal holding company income under subsection (i) (3), shall be treated as a corporate distribution in accordance with part I of subchapter C of this chapter.

(1) DISTRIBUTIONS IN LIQUIDATION.-A distribution in partial or complete liquidation with respect to a proprietorship or partnership interest by an enterprise as to which an election has been made under subsection (a), shall be treated as a corporate liquidation in accordance with part II of subchapter C of this chapter.

(m) ORGANIZATIONS AND REORGANIZATIONS.-An enterprise as to which an election has been made under subsection (a) shall not be considered a corporation, nor shall the proprietor or partners of such enterprise be considered shareholders, for purposes of parts III and IV of subchapter C of this chapter (relating to corporate organizations, and reorganizations, and insolvency reorganizations) except in the case of

(1) a contribution of property, constituting either paid-in surplus or a contribution to capital, on which gain or loss is recognized; and (2) the organization of an enterprise as to which the election described in subsection (a) is made for its first taxable year.

Subchapter S-Election of Certain Small Business Corporations as to Taxable Status

Sec. 1371. Definitions.

Sec. 1372. Election by small business corporation.

Sec. 1373. Corporation undistributed taxable income taxed to

shareholders.

Sec. 1374. Corporation net operating loss allowed to shareholders. Sec. 1375. Special rules applicable to distributions of electing small business corporations.

Sec. 1376.

Adjustment to basis of stock of, and indebtedness owing, shareholders.

Sec. 1377. Special rules applicable to earnings and profits of electing small business corporations.

SEC. 1371. DEFINITIONS.

(a) SMALL BUSINESS CORPORATION.-For purposes of this subchapter, the term "small business corporation" means a domestic corporation which is not a member of an affiliated group (as defined in section 1504) and which does not―

(1) have more than 10 shareholders;

(2) have as a shareholder a person (other than an estate) who is not an individual;

(3) have a nonresident alien as a shareholder; and

(4) have more than one class of stock.

(b) ELECTING SMALL BUSINESS CORPORATION.-For purposes of this subchapter, the term "electing small business corporation" means, with respect to any taxable year, a small business corporation which has made an election under section 1372 (a) which, under section 1372, is in effect for such taxable year.

(c) STOCK OWNED BY HUSBAND AND WIFE.-For purposes of subsection (a) (1) stock which

(1) is community property of a husband and wife (or the income from which is community income) under the applicable community property law of a State, or

(2) is held by a husband and wife as joint tenants, tenants by the entirety, or tenants in common,

shall be treated as owned by one shareholder.

SEC. 1372. ELECTION BY SMALL BUSINESS CORPORATION.

(a) ELIGIBILITY.-Except as provided in subsection (f), any small business corporation may elect, in accordance with the provisions of this section, not to be subject to the taxes imposed by this chapter. Such election shall be valid only if all persons who are shareholders in such corporation

(1) on the first day of the first taxable year for which such election is effective, if such election is made on or before such first day,

or

(2) on the day on which the election is made, if the election is made after such first day,

consent to such election.

(b) EFFECT.-If a small business corporation makes an election under subsection (a), then

(1) with respect to the taxable years of the corporation for which such election is in effect, such corporation shall not be subject to the taxes imposed by this chapter and, with respect to such taxable years and all succeeding taxable years, the provisions of section 1377 shall apply to such corporation, and

(2) with respect to the taxable years of a shareholder of such corporation in which or with which the taxable years of the corporation for which such election is in effect end, the provisions of sections 1373, 1374, and 1375 shall apply to such shareholder, and with respect to such taxable years and all succeeding taxable years, the provisions of section 1376 shall apply to such shareholder. (c) WHERE AND HOW MADE.

(1) IN GENERAL.-An election under subsection (a) may be made. by a small business corporation for any taxable year at any time during the first month of such taxable year, or at any time during the month preceding such first month. Such election shall be made in such manner as the Secretary or his delegate shall prescribe by regulations.

(2) TAXABLE YEARS BEGINNING BEFORE DATE OF ENACTMENT.— An election may be made under subsection (a) by a small business corporation for its first taxable year which begins after December 31, 1957, and on or before the date of the enactment of this subchapter, and ends after such date at any time

(A) within the 90-day period beginning on the day after the date of the enactment of this subchapter, or

(B) if its taxable year ends within such 90-day period, before the close of such taxable year.

An election may be made pursuant to this paragraph only if the small business corporation has been a small business corporation (as defined in section 1371 (a)) on each day after the date of the enactment of this subchapter and before the day of such election. (d) YEARS FOR WHICH EFFECTIVE.-An election under subsection (a) shall be effective for the taxable year of the corporation for which it is made and for all succeeding taxable years of the corporation, unless it is terminated, with respect to any such taxable year, under subsection (e).

(e) TERMINATION.-

(1) NEW SHAREHOLDERS.-An election under subsection (a) made by a small business corporation shall terminate if any person who was not a shareholder in such corporation

(A) on the first day of the first taxable year of the corporation for which the election is effective, if such election is made on or before such first day, or

(B) on the day on which the election is made, if such election is made after such first day,

becomes a shareholder in such corporation and does not consent to such election within such time as the Secretary or his delegate shall prescribe by regulations. Such termination shall be effective for the taxable year of the corporation in which such person becomes a shareholder in the corporation and for all succeeding taxable years of the corporation.

(2) REVOCATION.-An election under subsection (a) made by a small business corporation may be revoked by it for any taxable year of the corporation after the first taxable year for which the election is effective. An election may be revoked only if all persons who are shareholders in the corporation on the day on which the revocation is made consent to the revocation. A revocation under this paragraph shall be effective—

(A) for the taxable year in which made, if made before the close of the first month of such taxable year,

(B) for the taxable year following the taxable year in which made, if made after the close of such first month,

and for all succeeding taxable years of the corporation. Such revocation shall be made in such manner as the Secretary or his delegate shall prescribe by regulations.

(3) CEASES TO BE SMALL BUSINESS CORPORATION.-An election under subsection (a) made by a small business corporation shall terminate if at any time

(A) after the first day of the first taxable year of the corporation for which the election is effective, if such election is made on or before such first day, or

(B) after the day on which the election is made, if such election is made after such first day,

the corporation ceases to be a small business corporation (as defined in section 1371 (a)). Such termination shall be effective for the taxable year of the corporation in which the corporation ceases to be a small business corporation and for all succeeding taxable years of the corporation.

(4) FOREIGN INCOME.-An election under subsection (a) made by a small business corporation shall terminate if for any taxable year of the corporation for which the election is in effect, such corporation derives more than 80 percent of its gross receipts from sources outside the United States. Such termination shall be effective for the taxable year of the corporation in which it derives more than 80 percent of its gross receipts from sources outside the United States, and for all succeeding taxable years of the corporation.

(5) PERSONAL HOLDING COMPANY INCOME.-An election under subsection (a) made by a small business corporation shall terminate if, for any taxable year of the corporation for which the election is in effect, such corporation has gross receipts more than 20 percent of which is derived from royalties, rents, dividends, interest, annuities, and sales or exchanges of stock or securities (gross receipts from such sales or exchanges being taken into account for purposes of this paragraph only to the extent of gains therefrom). Such termination shall be effective for the taxable year of the corporation in which it has gross receipts of such amount, and for all succeeding taxable years of the corporation.

(f) ELECTION AFTER TERMINATION.-If a small business corporation has made an election under subsection (a) and if such election has been terminated or revoked under subsection (e), such corporation (and any successor corporation) shall not be eligible to make an election under subsection (a) for any taxable year prior to its fifth taxable year which begins after the first taxable year for which such termination or revocation is effective, unless the Secretary or his delegate consents to such election.