May 11, 2022
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 assessments issued to ***** (the “Taxpayer”) for the taxable years ended December 31, 2019, and 2020.
FACTS
The Taxpayer filed resident Virginia income tax returns for the 2019 and 2020 taxable years. He claimed employee business expenses on a federal Form 2106 and business expenses on a federal Schedule C on his 2019 and 2020 federal income tax returns, respectively. Under audit, the Department disallowed the expenses and issued assessments. The Taxpayer appealed, contending that the Department lacked the authority to disallow the expenses.
DETERMINATION
Virginia Code § 58.1-301 provides, with certain exceptions, that terminology and references used in Title 58.1 of the Code of Virginia will have the same meaning as provided in the Internal Revenue Code (IRC) unless a different meaning is clearly required. Conformity does not extend to terms, concepts, or principles not specifically provided in the Code of Virginia. 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 properly 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 Chapter 3 of Title 58.1 of the Code of Virginia.
As a general rule, the Department relies on the accuracy of information and computations reflected on the federal income tax return when reviewing Virginia individual income tax returns. If the information provided on the federal return looks reasonable, there is generally no reason to look behind those computations. However, the Department retains the authority to adjust the FAGI and itemized deductions where there is clear evidence that the amounts reported on the federal or Virginia income tax return are not consistent with the IRC. See Virginia Code § 58.1-219. The Department has consistently exercised this authority in conducting its audit programs. See Public Document (P.D.) 10-126 (7/7/2010), P.D. 12-141 (8/29/2012), P.D. 14-155 (8/28/2014), P.D. 16-53 (4/11/2016), P.D. 19-104 (9/18/2019), and P.D. 21-67 (5/25/2021). In addition, the adjustments in these cases have been made independently from any actions taken by the IRS.
Form 2106 Deduction
The Taxpayer claimed an adjustment to federal gross income in 2019 for employee business expenses reported on federal Form 2106. For the 2019 taxable year, an adjustment to income could be claimed on federal Form 2106 only by certain individuals, including Armed Forces reservists, qualified performing artists, and fee-based state or local officials. The Taxpayer has not shown that he was one of the listed individuals who could claim business expenses on a Form 2106, nor did he provide any documentation to support the claimed expenses.
Schedule C Expenses
Under IRC § 162, taxpayers are permitted to deduct all of the ordinary and necessary business expenses paid or incurred during the taxable year in carrying on any trade or business. Such expenses must be directly connected with or pertaining to the taxpayer’s trade or business. See Treas. Reg. § 1.162-1.
Schedule C is used to report income or loss from a business, including a sole proprietorship. Income from the business is offset by expenses. This income or loss is reported on a taxpayer’s federal income tax return and thus is reflected in FAGI reported on the Virginia return.
The Taxpayer claimed ordinary and necessary business expenses for his adult rehabilitation business on his 2020 federal Schedule C. The Department requested that the Taxpayer provide documentation to substantiate his business expenses. When the documentation was not received, the deduction for the expenses was disallowed. The Taxpayer has provided no further documentation with his appeal to substantiate the claimed expenses.
CONCLUSION
Taxpayers must maintain records sufficient to allow the IRS to determine their correct tax liability. See Treas. Reg. § 1.6001-1(a). Similarly, Virginia Code § 58.1-310 provides:
Whenever in the opinion of the Department it is necessary to examine the federal income returns or any copy thereof of any individual, estate, trust, partnership or corporation in order properly to audit such returns, the Department or the commissioner of the revenue shall have the right to require such taxpayer to provide such return or a copy thereof and all statements, inventories, and schedules in support thereof.
Under the provisions of Virginia Code § 58.1-205, in any proceeding relating to the interpretation of the tax laws of Virginia, an “assessment of a tax by the Department shall be deemed prima facie correct.” As such, the burden of proof is on the Taxpayer to show that the assessment was erroneous. Further, Virginia Code § 58.1-1826 precludes a court from granting relief to taxpayers seeking correction of erroneous state tax assessments in cases in which the erroneous assessment is attributable to the taxpayer’s willful failure or refusal to provide the Department with necessary information as required by law.
I will, however, allow the Taxpayer one final opportunity to provide adequate documentation to substantiate the deductions that were disallowed. The documentation must be sent to the Virginia Department of Taxation, RAP Unit, Office of Compliance, Desk Audit, RAP, P.O. Box 5610, Richmond, Virginia 23220-0610, to the attention of the auditor, *****, within 30 days of the date of this letter. Based on the documentation provided, the assessments will be adjusted as warranted. If the documentation is not received within the allotted time, the assessments 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 *****. If you have any questions regarding the documentation you must provide or the audit process generally, you may contact ***** at *****.
Sincerely,
Craig M. Burns
Tax Commissioner
AR/3999.B