Does Revoking S-Corp for an LLC Trigger a Forced Distribution and Capital Gains?

Someone on Reddit has a single-member Texas LLC with an S-Corp election that owns commercial rental real estate. They want to revoke the S-Corp election and go back to treating the LLC as a disregarded entity, reporting on Schedule E. They had read that revoking may trigger a "forced distribution" and capital gains on the company's appreciated assets from the time of the S-Corp election to revocation. Yes. Reverting from an S-Corp to a disregarded entity (single-member LLC) can trigger a deemed (forced) distribution. If the LLC holds appreciated assets, such as commercial rental real estate that has gone up in value since the election, revoking the S-Corp election may cause you to recognize capital gain (or other gain) on that appreciation when the entity is treated as distributing its assets to you upon the change in classification.

Bottom line: Yes. Reverting from an S-Corp to a disregarded entity (single-member LLC) can trigger a deemed (forced) distribution. If your single-member LLC owns appreciated assets, such as commercial rental real estate that has appreciated since the S-Corp election, revoking the election may cause you to recognize capital gain (or other gain) on that appreciation when the entity is treated as distributing its assets to you. Before revoking, get a clear picture of the fair market value of the assets and your basis in the S-Corp stock (and any debt). File a final Form 1120-S for the last year the S-Corp was in effect, then report rental income and expenses on Schedule E. Consult a tax professional experienced in S-Corp terminations and real estate to confirm how much gain is triggered and to plan timing and filings.

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Question from Reddit

Tax consequences of going from S-Corp to LLC

I have a single member Texas LLC with an s-corp election. The company owns commercial rental real estate. I would like to remove the s-corp election and go back to treating it as a disregarded entity and report on Schedule E.

I have read (but maybe misunderstood) that this triggers a "forced distribution" and may result in capital gains on the companies assets' appreciated value from the time of election to when the s-corp election is revoked. Is that true?

Source: Reddit

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Analysis

The user wants to revoke the S-Corp election for their single-member LLC that holds appreciated real estate and return to disregarded-entity treatment (Schedule E). They are asking whether revocation triggers a "forced distribution" and capital gains on the appreciation in the entity's assets from the date of the S-Corp election to the date of revocation. When an S-Corp ceases to exist as an S-Corp (e.g., by revocation), the IRS can treat the deemed transfer of assets to the owner(s) as a distribution or liquidation, which may cause gain to be recognized to the extent of built-in appreciation in the assets.

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Answer

Yes. Reverting from an S-Corp to a disregarded entity (single-member LLC) can trigger a deemed (forced) distribution. If your single-member LLC owns appreciated assets, such as commercial rental real estate that has gone up in value since the S-Corp election, revoking the S-Corp election may cause you to recognize capital gain (or other gain) on that appreciation when the entity is treated as distributing its assets to you upon the change in classification.

Why

• When the S-Corp election is revoked, the entity stops being an S-Corp for federal tax. For a single-member LLC, it then becomes a disregarded entity. Under IRS rules, that change in classification can be treated as if the S-Corp distributed its assets to you (the sole shareholder). That is the "forced distribution" you read about.
• If the assets (e.g., the real estate) have appreciated since they were held by the S-Corp (or since the election), the deemed distribution can be treated as a distribution of property in exchange for your stock, triggering gain to the extent the fair market value of the property exceeds your basis in the stock (and subject to the normal rules for distributions and liquidations). So built-in gain in the real estate can become taxable in the year of revocation.

What to do

• Before revoking, get a clear picture of: (1) the fair market value of the real estate (and any other assets) as of the revocation date, and (2) your basis in the S-Corp stock (and any debt). That will drive how much gain (if any) is recognized.
• File a final Form 1120-S for the last year the S-Corp was in effect (the year of revocation). Report income and the deemed distribution / liquidation per the rules and any IRS guidance.
• After revocation, report rental income and expenses on Schedule E on your personal return (disregarded entity).
• Consult a tax professional (ideally one experienced in S-Corp terminations and real estate) to (1) confirm whether and how much gain is triggered in your situation, (2) plan the timing of revocation, and (3) prepare the final 1120-S and your 1040. Margen can help you model income, gain, and tax before and after the change so you're prepared for that conversation.

Related: Can I Revoke S-Corp Election for My LLCs in 2026 and Go Back to Schedule C? · Converting from S-Corp Back to LLC · Can I Retroactively File an LLC and Then Make the S-Corp Election? · Entity Classification Election Mistake: LLC Treated as C-Corp

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Applicable Sections

Federal / IRS

• IRC § 1366: Pass-through of S-Corp income, deductions, and other items; basis adjustments that affect gain on distributions and liquidation.
• Deemed distribution on revocation / termination: When an S-Corp ceases to be an S-Corp (e.g., revocation), the transfer of assets to the shareholder(s) can be treated as a distribution or liquidation, potentially triggering gain to the extent of appreciation in the assets (see IRC §§ 331, 336, 1371, and related regs; Rev. Rul. 2008-18 and similar guidance on entity classification changes).
• Final Form 1120-S: Required for the last year the entity was an S-Corp; report operations and the deemed distribution / liquidation per the applicable rules.

State / Texas

• Texas may have its own treatment of S-Corp revocation and franchise or income tax implications. A Texas tax professional can advise.

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Practical Notes

• Revoking S-Corp with appreciated assets (e.g., real estate) can trigger a deemed distribution and capital gain (or other gain) on that appreciation.
• Before revoking: Estimate FMV of assets and your stock (and debt) basis to approximate the gain; a tax pro can do this properly.
• File a final Form 1120-S for the last S-Corp year; then report rental activity on Schedule E.
• Margen can help you model gain and tax so you understand the cost of revoking before you do it.
• Consult a tax professional familiar with S-Corp terminations and real estate before revoking.

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Limitations

This answer does not cover exact calculation of gain, installment or deferred reporting, state (including Texas) tax, or multi-asset / multi-entity situations. For whether and how much gain is triggered in your case, consult a tax professional. You can use Margen to model scenarios before and after revocation.