Tax Type
Individual Income Tax
Description
Taxes paid to other states; California franchise taxes
Topic
Credits
Date Issued
06-28-1995
June 28, 1995
Re: §58.1-1821 Application: Individual Income Tax
Dear**************
This will reply to your letter of October 19, 1994, concerning the 1991 Virginia individual income tax assessment of your clients,*****************(the "Taxpayers").
FACTS
The Taxpayers are Virginia residents. The husband was a shareholder in an S Corporation that earned income from doing business in California. For California purposes, the S Corporation elected to be treated as a C Corporation and filed a 1990 California Corporation Franchise or Income Tax Return, which had a fiscal year ending in 1991. When the 1991 Virginia income tax return was filed, an out-of-state credit was claimed for the husband's pro rata portion of the California corporation franchise tax paid by the S Corporation. The department disallowed the portion of the out-of-state credit attributable to the corporation franchise tax, and issued an assessment. The Taxpayers contend that the corporation franchise tax is an income tax that qualifies for the Virginia out-of-state tax credit provided in Code of Virginia §58.1-332 since it is based on income. They also provide the department's Public Document (P.D.) 88-119 (May 27, 1988) to further substantiate that the credit is allowable.
DETERMINATION
Since 1959 the Virginia Department of Taxation has consistently held that Virginia residents were not entitled to an out-of-state credit for taxes paid to another jurisdiction if such taxes were designated as "franchise" taxes. The Virginia Supreme Court overturned this policy by holding that, although designated as a "franchise" tax, the tax imposed by the District of Columbia on entities operating within its jurisdiction was actually an income tax. Llewellyn King v. W.H. Forst, State Tax Comm'r. 239 Va. 557 (1990)
Legislation enacted by the 1991 General Assembly (HB 1734, Chapter 362 and SB 765, Chapter 456), retroactively overturned the Virginia Supreme Court's King decision. Specifically, Code of Virginia §58.1-332 provides that:
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- [N]o franchise tax, license tax, excise tax, unincorporated business tax, occupation tax or any tax characterized as such by the taxing jurisdiction. although applied to earned or business income, shall qualify for the credit under this section. (Emphasis added.)
- [N]o franchise tax, license tax, excise tax, unincorporated business tax, occupation tax or any tax characterized as such by the taxing jurisdiction. although applied to earned or business income, shall qualify for the credit under this section. (Emphasis added.)
P.D. 88-119 simply referred to a credit being allowable for California income tax paid, but did not address the situation where a franchise tax was imposed on a C or S Corporation doing business in California. Therefore, to clarify the department's policy concerning the Virginia out-of-state credit the public document stated:
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- This credit is only applicable to the 2.5% California tax imposed on S Corporations which make the election to be taxed as an S Corporation or the California corporate income tax that is imposed on S Corporations which elect to be taxed as C Corporations. (Emphasis added.)
- This credit is only applicable to the 2.5% California tax imposed on S Corporations which make the election to be taxed as an S Corporation or the California corporate income tax that is imposed on S Corporations which elect to be taxed as C Corporations. (Emphasis added.)
In the instant case, the husband's corporation apportioned income to California using the three-factor formula, which included property, payroll, and sales located in California. Therefore, the corporation was clearly doing business in California and was subject to the California franchise tax instead of the income tax. As a result, the franchise tax paid to California was not allowable in the computation of the 1991 Virginia out-of-state credit.
Although I am sympathetic to the Taxpayer's situation, neither Code of Virginia §58.1-332 nor P.D. 88-119 provide basis for the credit claimed. As such, the department has no choice but to deny the relief sought by the Taxpayers. The balance of the updated assessment is
which represents tax of******* and******interest of If you have any questions, please feel free to contact**********.
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Sincerely,
Danny M. Payne
Tax Commissioner
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OTP/8594N
Rulings of the Tax Commissioner