(7) Post-termination Transition Issues Applicable to S Corporation Shareholders.

(a) Post-termination transition period. If an S corporation ceases to qualify as an S corporation, Massachusetts follows the federal rules that allow distributions from the former S corporation to be treated under the distribution rules for S corporations for a period of time. See e.g., Code §§ 1371(e), 1377(b). 1. Timing of pass-through items in the post-termination transition period. A shareholder of an entity that ceases to qualify for S corporation treatment under Code § 1362 is subject to tax under M.G.L. c. 62 on the S corporation’s items of income, loss, or deduction as provided under the rules of Code § 1366(a) and 830 CMR 62.17A.2(4). The shareholder shall recognize and report such items, in the shareholder's taxable year in which the taxable year of the S corporation ends. 2. Cash distribution in the post-termination transition period. Under the rules of Code § 1371(e), any distribution of money by an S corporation with respect to its stock during the post-termination transition period shall reduce the shareholder's Massachusetts adjusted basis to the extent of the Massachusetts accumulated adjustments account. Distributions other than of cash during the post-transition period must follow the rules that apply to distributions from C corporations, and are not given special treatment. (b) Effect on a shareholder’s basis in the S corporation stock from a distribution by the S corporation in a post-termination period. If the AAA is not fully depleted at the end of a post-termination transition period, as defined at 830 CMR 62.17A.2(7)(a) , it has no further effect, and is treated as part of the successor C corporation’s paid-in capital. Any distributions from the entity after the end of the post-termination transition period are subject to the rules for distributions from the C corporation successor. No additional basis adjustment to the S corporation shareholder’s shares is required or allowed when the undistributed Massachusetts accumulated adjustments account balance is added to paid-in capital.