A bill to amend the Internal Revenue Code of 1986 to provide for S corporation reform, and for other purposes.

SECTION 1. SHORT TITLE, REFERENCE.

    (a) Short Title.--This Act may be cited as the ``S Corporation 
Modernization Act of 2008''.
    (b) Amendment of 1986 Code.--Except as otherwise expressly 
provided, whenever in this Act an amendment or repeal is expressed in 
terms of an amendment to, or repeal of, a section or other provision, 
the reference shall be considered to be made to a section or other 
provision of the Internal Revenue Code of 1986.

SEC. 2. REDUCED RECOGNITION PERIOD FOR BUILT-IN GAINS.

    (a) In General.--Paragraph (7) of section 1374(d) (relating to 
definitions and special rules) is amended as follows:
            ``(7) Recognition period.--The term `recognition period' 
        means the 7-year period beginning with the 1st day of the 1st 
        taxable year for which the corporation was an S corporation. 
        For purposes of applying this section to any amount includible 
        in income by reason of distributions to shareholders pursuant 
        to section 593(e), the preceding sentence shall be applied 
        without regard to the duration of the recognition period in 
        effect on the date of such distribution.''.
    (b) Effective Date.--The amendment made by this section--
            (1) shall apply for purposes of determining the recognition 
        period with respect to 1st days referred to in section 
        1374(d)(7) of the Internal Revenue Code of 1986 occurring 
        before, on, or after January 1, 2008, but
            (2) shall not apply for purposes of determining the tax 
        imposed by section 1374 of such Code for taxable years ending 
        before such date.

SEC. 3. REPEAL OF EXCESSIVE PASSIVE INVESTMENT INCOME AS A TERMINATION 
              EVENT.

    (a) In General.--Paragraph (3) of section 1362(d) (relating to 
termination) is amended by adding at the end the following new 
subparagraph:
                    ``(D) Termination.--This paragraph shall not apply 
                to taxable years beginning after December 31, 2007.''.
    (b) Effective Date.--The amendment made by this section shall apply 
to taxable years beginning after December 31, 2007.

SEC. 4. MODIFICATIONS TO PASSIVE INCOME RULES.

    (a) Increased Limit.--
            (1) In general.--Paragraph (2) of section 1375(a) (relating 
        to tax imposed when passive investment income of corporation 
        having accumulated earnings and profits exceeds 25 percent of 
        gross receipts) is amended by striking ``25 percent'' and 
        inserting ``60 percent''.
            (2) Conforming amendments.--
                    (A) Subparagraph (J) of section 26(b)(2) is amended 
                by striking ``25 percent'' and inserting ``60 
                percent''.
                    (B) Clause (i) of section 1375(b)(1)(A) is amended 
                by striking ``25 percent'' and inserting ``60 
                percent''.
                    (C) The heading for section 1375 is amended by 
                striking ``25 percent'' and inserting ``60 percent''.
                    (D) The table of sections for part III of 
                subchapter S of chapter 1 is amended by striking ``25 
                percent'' in the item relating to section 1375 and 
                inserting ``60 percent''.
    (b) Effective Date.--The amendments made by this section shall 
apply to taxable years beginning after December 31, 2007.

SEC. 5. EXPANSION OF QUALIFYING BENEFICIARIES OF AN ELECTING SMALL 
              BUSINESS TRUST.

    (a) No Look Through for Eligibility Purposes.--Clause (v) of 
section 1361(c)(2)(B) (relating to treatment as shareholders) is 
amended by adding at the end the following new sentence: ``This clause 
shall not apply for purposes of subsection (b)(1)(C).''.
    (b) Effective Date.--The amendment made by this section shall take 
effect on January 1, 2008.

SEC. 6. EXPANSION OF S CORPORATION ELIGIBLE SHAREHOLDERS TO INCLUDE 
              IRAS.

    (a) In General.--Clause (vi) of section 1361(c)(2)(A) (relating to 
certain trusts permitted as shareholders) is amended to read as 
follows:
                            ``(vi) A trust which constitutes an 
                        individual retirement account under section 
                        408(a), including one designated as a Roth IRA 
                        under section 408A.''.
    (b) Sale of Stock in IRA Relating to S Corporation Election Exempt 
From Prohibited Transaction Rules.--Paragraph (16) of section 4975(d) 
(relating to exemptions) is amended to read as follows:
            ``(16) a sale of stock held by a trust which constitutes an 
        individual retirement account under section 408(a) to the 
        individual for whose benefit such account is established if--
                    ``(A) such sale is pursuant to an election under 
                section 1362(a) by the issuer of such stock,
                    ``(B) such sale is for fair market value at the 
                time of sale (as established by an independent 
                appraiser) and the terms of the sale are otherwise at 
                least as favorable to such trust as the terms that 
                would apply on a sale to an unrelated party,
                    ``(C) such trust does not pay any commissions, 
                costs, or other expenses in connection with the sale, 
                and
                    ``(D) the stock is sold in a single transaction for 
                cash not later than 120 days after the S corporation 
                election is made.''.
    (c) Effective Date.--The amendments made by this section shall take 
effect on January 1, 2008.

SEC. 7. ALLOWANCE OF DEDUCTION FOR CHARITABLE CONTRIBUTIONS FOR 
              ELECTING SMALL BUSINESS TRUSTS.

    (a) In General.--Section 641(c)(2)(C) (relating to modifications) 
is amended by adding at the end the following new sentence: ``The 
deduction for charitable contributions allowed under clause (i) shall 
be determined without regard to section 642(c), and the limitations 
imposed by section 170(b)(1) on the amount of the deduction shall be 
applied to the electing small business trust as if it were an 
individual.''.
    (b) Effective Date.--The amendment made by this section shall apply 
to taxable years beginning after December 31, 2007.

Summary: S Corporation Modernization Act of 2008 - Amends the Internal Revenue Code to revise the tax treatment of S corporations by: (1) reducing from 10 to seven years the period during which S corporation built-in gains are subject to tax. (2) repealing mandatory termination of S corporation elections for excessive passive investment income. (3) allowing S corporations to increase passive investment income from 25 to 60 without incurring additional tax. (4) allowing nonresident aliens to be potential current beneficiaries of an electing small business trust (ESBT). (5) allowing individual retirement accounts (IRAs) to be S corporation shareholders, and (6) allowing ESBTs to claim expanded charitable tax deductions.