Tax Type
Individual Income Tax
Description
Reciprocal income tax agreement between Maryland and Virginia
Topic
Out of State Tax Credits
Records/Returns/Payments
Residency
Date Issued
08-02-2013
August 2, 2013
Re: § 58.1-1821 Application: Individual Income Tax
Dear *****:
This will reply to your letter in which you seek correction of the individual income tax assessment issued to your client, ***** (the "Taxpayer"), for the taxable year ended December 31, 2009.
FACTS
The Taxpayer, a resident of Maryland, was employed in Virginia. The Taxpayer also had income from ***** (MSC), a Maryland S corporation that operated in Virginia. On her Virginia nonresident income tax return for the 2009 taxable year, the Taxpayer allocated wages and ordinary and interest income from MSC to Virginia, but claimed a credit against her Virginia tax liability for taxes paid to Maryland.
Under review, the Department disallowed the out-of-state tax credit. In response, the Taxpayer submitted an amended return to allocate only her income from MSC to Virginia. The Department rejected the amended return, concluding that because the Taxpayer had other Virginia source income besides wages, reciprocity did not apply. The Taxpayer filed an appeal, contending that the reciprocal income tax agreement between Maryland and Virginia exempted the Taxpayer's wages from Virginia taxation.
DETERMINATION
Out-of-State Tax Credit
Under Va. Code § 58.1-332 B, a nonresident is permitted to claim a credit against tax on income from Virginia sources when their state of residency provides a substantially similar credit to Virginia residents or imposes a tax upon their income derived from Virginia sources but does not tax income earned in the state by Virginia residents. Because it is dependent on another state granting a similar or reciprocal credit, it may be limited by the credit permitted by the other state.
Currently, only residents of Arizona, California, Oregon, and the District of Columbia may qualify for this credit. The Department, therefore, properly disallowed the out-of-state credit claimed on the Taxpayer's original nonresident return.
Reciprocity
Virginia Code § 58.1-342 B grants the Department the authority to enter into reciprocal agreements with other states to exempt nonresidents from the Virginia income tax when they earn salaries and wages from working in Virginia if such other states similarly exempt Virginia residents. In addition, employers are not required to withhold Virginia income tax from residents of these states. Virginia currently has this type of agreement with Maryland, West Virginia, and Pennsylvania. Section III B 4 of the Reciprocal Income Tax Agreement between Commonwealth of Virginia and State of Maryland provides:
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- Nothing in this agreement shall be interpreted to exempt a resident of Virginia or Maryland who has taxable income in the state of nonresidence, other than in the form of compensation, from liability for payment of income tax or filing an income tax return with regard to such other taxable income (emphasis supplied).
Accordingly, when Maryland residents have Virginia salary or wage compensation and other Virginia taxable income (such as income from a pass-through entity), they must file a nonresident return to report and pay tax only on the other income. See also Tax Bulletin (VTB) 06-8 (12/27/2006). The reciprocal agreement does not permit Virginia to impose income tax on Maryland residents' Virginia salaries or wages simply because they have other taxable Virginia income.
Nonresident S Corporation Shareholders
Individuals who are neither domiciliary nor actual residents of Virginia and have income from Virginia sources are taxed as nonresidents. The Virginia taxable income of a nonresident is defined under Va. Code § 58.1-325 as "an amount bearing the same proportion to his Virginia taxable income, computed as though he were a resident, as the net amount of his income, gain, loss and deductions from Virginia sources bears to the net amount of his income, gain, loss and deductions from all sources."
Virginia Code § 58.1-341 requires every nonresident individual having Virginia taxable income to file an income tax return. Virginia Code § 58.1-325 B provides statutory guidance for the treatment of a nonresident shareholder of an S corporation with Virginia activity. It has been the Department's longstanding policy that income received by a Subchapter S corporation, which is determined to be income from Virginia sources, will remain Virginia source income in the hands of the shareholders. See Public Document (P.D.) 88-165 (6/29/1988).
In this case, MSC operated in both Maryland and Virginia. An S Corporation that conducts business in multiple states is required to apportion income in accordance with the corporate statutory formula set forth in Va. Code §§ 58.1-408 through 58.1-421.
On her amended return, the Taxpayer allocated all of the ordinary and interest income from MSC to Virginia. Virginia law, however, only requires a nonresident S corporation shareholder to allocate to Virginia the part of her distributive share of income which is apportioned to Virginia.
CONCLUSION
The Department correctly disallowed the Taxpayer from claiming an out-of-state tax credit on her original nonresident return. However, because the reciprocal agreement between Maryland and Virginia does not permit the Commonwealth from imposing tax on Virginia compensation earned by Maryland residents simply because they have other income (both ordinary and interest) from Virginia sources, the Department erred in denying the Taxpayer's amended return.
In addition, the Taxpayer's distributive share of MSC income included both Maryland and Virginia source income. The Taxpayer, however, is only required to allocate that portion of income apportioned to Virginia. As such, it appears that the Taxpayer overstated her Virginia source income on the amended 2009 nonresident return. The Taxpayer, therefore, is hereby requested to file an amended return reflecting only that portion of income apportioned to Virginia by MSC as Virginia source income in accordance with this determination.
The requested return should be filed within 30 days from the date of this letter. Please send the return to the Department of Taxation, Office of Tax Policy, Appeals and Rulings, P.O. Box 27203, Richmond, Virginia 23261-7203, Attn: *****. Upon receipt of the amended return, the assessment will be adjusted as warranted. If the return is not filed, the assessment will be adjusted based on the available information and collection action will resume.
The Code of Virginia sections, regulation, tax bulletin, and public document cited are available on-line in the Tax Policy Library section of the Department's web site, located at www.tax.virginia.gov. If you have any questions about this determination, you may contact ***** in the Office of Tax Policy, Appeals and Rulings, at *****.
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- Sincerely,
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Craig M. Burns
Tax Commissioner
AR/1-5310507037.M
Rulings of the Tax Commissioner