Tax Type
Individual Income Tax
Description
Mutual fund interest and dividends
Topic
Taxable Income
Date Issued
07-07-1987
July 7, 1987
Re: Ruling Request - Exempt Interest and Dividends
Dear ******************
This is in reply to your recent letters requesting that the department issue rulings regarding the taxability, for Virginia individual income tax purposes, of the interest and dividends paid to investors in the above mentioned mutual funds. of the above mutual funds, ********* have already been established. The third mutual fund, ********* is a proposed fund that is currently in the planning stages.
RULINGS
Due to the turnover in investments held by regulated investment companies and the commingling of interest from exempt and nonexempt obligations held by such companies, it is extremely difficult for the Department of Taxation to make definitive determinations regarding the taxability, for Virginia individual income tax purposes, of dividends paid by such companies. That is why*********** letter to you of February 17, 1987 (copy attached) set forth our general policy and our statutes regarding the taxability of dividends paid by regulated investment companies. I will respond to the questions that you have raised, but it must be understood that any answers given in this ruling are based upon the copy of the Prospectus presented to the department and such responses will not necessarily be determinative of the taxability of the actual proceeds of the particular mutual fund.
Specifically, you ask: (1) whether residents of Virginia are subject to state personal income taxation on interest earned on obligations (e.g., general obligation bonds, revenue bonds and industrial revenue bonds) of the Commonwealth of Puerto Rico, if such obligations are purchased and held directly by Virginia residents, and (2) whether dividends paid to resident shareholders of a regulated investment company (mutual fund) whose assets are comprised entirely of Puerto Rico obligations are subject to personal income taxation.
As set forth in one of the attachments to ********** letter to you dated February 17, 1987 (Tax Bulletin 82-3):
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- Specific Statutory Exemptions: Various sections of federal and Virginia law exempt from state taxation the interest on specific securities of particular U. S. or Virginia agencies, commissions, etc. All interest received on these specific securities qualify for the subtraction even though the obligation might not come within the definition of an exempt obligation under Section 58-151.013.
- Specific Statutory Exemptions: Various sections of federal and Virginia law exempt from state taxation the interest on specific securities of particular U. S. or Virginia agencies, commissions, etc. All interest received on these specific securities qualify for the subtraction even though the obligation might not come within the definition of an exempt obligation under Section 58-151.013.
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- All bonds issued by the Government of Puerto Rico or by its authority, shall be exempt from taxation by the Government of the United States, or by the Government of Puerto Rico or of any political or municipal subdivision thereof, or by any State, Territory, or possession, or by any county, municipality, or other municipal subdivision of any State, Territory, or possession of the United States, or by the District of Columbia.
- All bonds issued by the Government of Puerto Rico or by its authority, shall be exempt from taxation by the Government of the United States, or by the Government of Puerto Rico or of any political or municipal subdivision thereof, or by any State, Territory, or possession, or by any county, municipality, or other municipal subdivision of any State, Territory, or possession of the United States, or by the District of Columbia.
You also requested a ruling regarding the taxability, for Virginia individual income tax purposes, of the interest and dividends paid to Virginia residents from the above mentioned mutual fund. This fund may invest only in marketable securities issued or guaranteed by the United States Government, by various agencies of the United States Government and by various instrumentalities which have been established or sponsored by the United States Government ("U.S. Government Securities"). It is the present policy of this fund to invest 100% of its assets in overnight repurchase agreements with government securities dealers recognized by the Federal Reserve Board or with member banks of the Federal Reserve System. The agreements are collateralized by U.S. Government Securities.
Section 630-2-322(C)(2)(d) of the Virginia Individual Income Tax Regulations provides:
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- Repurchase agreements are usually obligations issued by financial institutions which are secured by U.S. obligations exempt from Virginia income taxation under (a) or (c) above. In such cases the interest paid by the financial institutions to purchasers of repurchase agreements does not qualify for the subtraction. Repurchase agreements issued following current commercial practice will invariably be regarded as obligations of the issuing financial institution. However, if the purchaser is regarded as the true owner of the underlying exempt obligation, the interest will qualify for the subtraction even though collected by the seller and distributed to the purchaser. Any claim of such ownership must be substantiated by a taxpayer claiming a subtraction.
- Repurchase agreements are usually obligations issued by financial institutions which are secured by U.S. obligations exempt from Virginia income taxation under (a) or (c) above. In such cases the interest paid by the financial institutions to purchasers of repurchase agreements does not qualify for the subtraction. Repurchase agreements issued following current commercial practice will invariably be regarded as obligations of the issuing financial institution. However, if the purchaser is regarded as the true owner of the underlying exempt obligation, the interest will qualify for the subtraction even though collected by the seller and distributed to the purchaser. Any claim of such ownership must be substantiated by a taxpayer claiming a subtraction.
In anticipation of developing a mutual fund with the above title, you have requested a ruling regarding the taxability, for Virginia individual income tax purposes, of the proceeds from a mutual fund that will invest entirely in obligations of the state of Virginia and its municipalities, except to the extent that the fund may for defensive purposes invest in other types of obligations. These other types of obligations may or may not be exempt from federal and/or Virginia income taxation. Specifically, you have asked the following questions:
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- 1. Must the fund invest exclusively in obligations of the state of Virginia or its political subdivisions and agencies or could the fund also invest in obligations or securities of the United States to the extent exempt from state income taxes under the laws of the United States? Would the entire dividend be tax exempt or only the portion derived from interest on Virginia obligations?
2. If the fund invested in securities or obligations the interest on which is exempt from federal income taxes but not from Virginia income taxes, would the exemption on that portion of the dividend attributable to Virginia municipal and other obligations the interest on which is exempt under the Virginia tax code be lost, or would an exemption be available on a pro rata basis?
3. If an exemption is available based upon the pro rata portion of the interest derived from tax exempt obligations, would a shareholder have to prove the source of this interest to the satisfaction of the department in order to claim a tax exemption as to that portion of dividends paid by the fund? If so, would a statement from the fund suffice?
- 1. Must the fund invest exclusively in obligations of the state of Virginia or its political subdivisions and agencies or could the fund also invest in obligations or securities of the United States to the extent exempt from state income taxes under the laws of the United States? Would the entire dividend be tax exempt or only the portion derived from interest on Virginia obligations?
In answer to your second and third questions above, the Individual Income Tax Regulations state "[w]hen taxable income is commingled with exempt income all income is presumed taxable unless the portion of income which is exempt from Virginia individual income tax can be determined with reasonable certainty and substantiated."
It is our understanding that the general practice in the industry is to compute and to credit dividends monthly, even though the computations may be based upon a daily interest rate and account balances which fluctuates daily. Therefore, in order that your clients may have sufficiently detailed information upon which they can substantiate the subtraction claimed, they should be furnished with a statement that summarizes the monthly prorations.
As I stated earlier in this ruling, any answers given in this ruling are based upon the copy of the Prospectus presented to the department and such responses will not necessarily be determinative of the taxability of the actual proceeds of the Particular mutual fund.
Sincerely,
W. H. Forst
Tax Commissioner
Rulings of the Tax Commissioner