June 30, 2015
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 ***** (the "Taxpayer") for the taxable year ended December 31, 2010. I apologize for the delay in responding to your appeal.
FACTS
The Taxpayer retired from the ***** (State A) public school system in 1996. At that time, he rolled over the value of his retirement plan into an individual retirement account (IRA).
For the 2010 taxable year, the Taxpayer filed a Virginia resident income tax return claiming a subtraction for retirement income. Under audit, the Department disallowed the subtraction on the basis that total amount claimed by the Taxpayer exceeds the aggregate contributions made to the plan and issued an assessment.
The Taxpayer paid the assessment and filed an appeal, contending he received pension income from contributions that were previously taxed by State A. Further, the Taxpayer asserts that the Department advised him in writing that his retirement income was not subject to Virginia income tax. Finally, in event that the Department disallows the subtraction, the Taxpayer requests that he be permitted to carry the subtraction claimed on the 2009 return forward to the 2010 taxable year.
DETERMINATION
Retirement Subtraction
Virginia Code § 58.1-301 provides that terminology and references used in Title 58.1 of the Code of Virginia will have the same meaning as provided in the IRC unless a different meaning is clearly required. For individual income tax purposes, Virginia "conforms" to federal law, in that it starts the computation of Virginia taxable income with federal adjusted gross income (FAGI). Income included in the FAGI of a Virginia resident is subject to taxation by Virginia, unless it is specifically exempt as a Virginia modification pursuant to Va. Code § 58.1-322.
Virginia Code § 58.1-322 C 19 provides a subtraction for any income received during the taxable year derived from a qualified pension, profit-sharing, or stock bonus plan as described by § 401 of the Internal Revenue Code, an individual retirement account or annuity established under § 408 of the Internal Revenue Code, a deferred compensation plan as defined by § 457 of the Internal Revenue Code, or any federal government retirement program, the contributions to which were deductible from the taxpayer's federal adjusted gross income, but only to the extent the contributions to such plan or program were subject to taxation under the income tax in another state. Before taxpayers are permitted to subtract any portion of their retirement income, contributions to the retirement plan must satisfy a two-part test: (1) they must have been deductible for federal income tax purposes; and (2) they must still have been subject to income tax in another state.
State A law provides that contributions made by an employee to a retirement benefits plan, including a deferred compensation plan under IRC § 403(b), are taxable at the time the contributions are made. As such, the contributions to the Taxpayer's retirement system were included in his income and he would be eligible to subtract the distributions from the pension plan to the extent contributions were subject to tax in State A. While the contributions made to the deferred compensation plan are eligible for the subtraction under Va. Code § 58.1-322 C 19, income generated by those contributions are not.
The complexity of calculating the portion of a retirement plan distribution attributable to previously taxed income was recognized by the Department and communicated to the General Assembly when enacted by House Bill 875 (Chapter 624, Acts of Assembly) in 1996. In its Fiscal Impact Statement (FIS), the Department explained that it is generally difficult, if not impossible, to determine what portion of a distribution would be a return of a contribution or income generated from the investments because deferred compensation plan accounts can include multiple investment vehicles in which income is usually reinvested to and from funds which can be moved depending on the objectives of the owner of the account. Also, it is possible that an individual may have lived in several different states, and made retirement plan contributions under both conformity and nonconformity rules.
By reason of their character as legislative grants, statutes relating to deductions and subtractions allowable in computing income and credits allowed against a tax liability must be strictly construed against the taxpayer and in favor of the taxing authority. See Howell's Motor Freight, Inc., et al. v. Virginia Department of Taxation, Circuit Court of the City of Roanoke, Law No. 82-0846 (10/27/1983). As such, it is incumbent upon the taxpayer to prove they are entitled to a subtraction reported on a Virginia return.
In Public Document (P.D.) 10-214 (9/15/2010), the Department established a pro-rata approach that accurately reflects the nature of a distribution from a retirement plan. Accordingly, a taxpayer who receives a distribution from a retirement plan as described in Va. Code § 58.1-322 C 19 and whose contributions to such plan were subject to income taxation in another state would determine the portion of the annual distribution(s) eligible for the subtraction by multiplying the total amount of the annual distribution(s) by a ratio equal to the total balance of previously taxed contributions divided by the sum of the value of the retirement account at the end of the taxable year plus the total amount of the annual distribution(s).
The Taxpayer contends that he began making contributions to his retirement account in 1988. The only documentation of the contributions that has been provided is Form W-2s for the 1995 and 1996 taxable year. The Taxpayer admits the documents relative to his contributions are not available. Further, The Taxpayer has not provided documentation to show the value of the retirement account at the end of the taxable year plus the total amount of the annual distribution(s). Therefore, the information provided is not sufficient to show the balance of the Taxpayers previously taxed contributions.
Under the provisions of Va. Code § 58.1-205 any proceeding relating to the interpretation of the tax laws of Virginia, an "assessment of a tax by the Department shall be deemed prima fascia correct." Accordingly, the Taxpayer must provide sufficient documentation showing the balance of previously taxed contributions, the value of the retirement account at the end of the taxable years the subtraction is claimed, and the total amount of any annual distribution. Such documentation may include, but is not limited to, paystubs detailing contribution amounts, investment records and tax returns filed in the state where the contributions were made.
Written Advice
The Taxpayer cites a letter issued by the Department in April 2008, which indicated that he could subtract income from the Taxpayer's retirement plan and transitional IRA account that had State A income tax withheld that was included in FAGI. No evidence has been provided to indicate that any State A income tax was withheld from any distributions from the retirement plan or IRA. Further, two previous letters issued to the Taxpayer clearly set forth the eligibility requirements for the subtraction as set forth above. The Taxpayer has only been able to show State A withholding on contributions made to the plan in 1995 and 1996. Despite the Department's advice to the contrary, the Taxpayer subtracted the entire amount of pension income received during the taxable year.
Virginia Code § 58.1-1835 authorizes the Tax Commissioner to abate an assessment or a portion of an assessment that is attributable to erroneous advice furnished to taxpayers in writing by an employee of the Department acting in his official capacity. Thus, the Department would be required to abate an assessment or a portion of an assessment that is attributable to such erroneous advice. Such abatement, however, is limited to the taxpayer to whom the advice was given.
In this case, the Department clearly indicated that the only income that would be eligible for the retirement subtraction would have been income subject to withholding in State A. While not as clear as the previous correspondence, the April 2008 letter clearly limits the type of retirement income that would be eligible for the subtraction. In addition, the Department's established policy has been publicly and consistently upheld in Public Document (P.D.) 96-188 (8/5/1996), P.D. 04-177 (10/6/2004), P.D. 09-79 (5/26/2009), P.D. 10-214, and P.D. 15-69 (4/15/2015).
Subtraction Carryover
The Taxpayer also claimed a retirement subtraction on his 2009 return. Because he had other deductions that exceeded his FAGI, the Taxpayer believes he should be allowed to carry forward the pension subtraction claimed on the 2009 return to the 2010 taxable year. Virginia Code § 58.1-322 C 19 does not provide for the carryover of any unused portion of the retirement subtraction.
CONCLUSION
Based on established policy and the evidence provided, the Taxpayer was not eligible to subtract the entire amount of his retirement income received. However, the Taxpayer may correct the disallowed retirement subtraction on the 2010 income tax return. The documentation provided does show that a portion of the Taxpayer's annual distribution may be eligible for the subtraction, but is not sufficient to accurately compute the qualified amount.
The Taxpayer will be granted one last opportunity to provide the information required to show the amounts of the previously taxed contributions and the value of the retirement account at the end of the 2010 taxable year. The documentation must be provided within 30 days from the date of this letter. Please send the requested information to: Virginia Department of Taxation, Office of Tax Policy, Appeals and
Rulings, P.O. Box 27203, Richmond, Virginia 23261-7203, Attn: *****. If sufficient documentation is not provided within the 30 day period, the 2010 assessment will be considered to be correct.
The Code of Virginia sections and public documents cited are available on-line at www.tax.virginia.gov in the Laws, Rules & Decisions section of the Department's web site. If you have any questions regarding this determination, you may contact ***** in the Office of Tax Policy, Appeals and Rulings, at *****.
Sincerely,
Craig M. Burns
Tax Commissioner
AR/1-5750266022.D