Tax Type
Individual Income Tax
Description
Payments were properly characterized as "guaranteed payments"
Topic
Assessment
Clarification
Date Issued
04-07-2005
April 7, 2005
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, 2001.
FACTS
The Taxpayer was a nonresident member in ***** (the "Company"). The Company is located in Virginia and has members that are both residents and nonresidents of Virginia. The Taxpayer performs work on behalf of the Company from an office in ***** ("State A"). The Company reported the payment made to the Taxpayer as a "guaranteed payment."
Under audit, the Department determined that the payment was a distribution by the Company that constituted Virginia source income. The Taxpayer contests the assessment, asserting that the payment from the Company was a "guaranteed payment," as described in Internal Revenue Code ("IRC") § 707(c), and is not Virginia source income.
DETERMINATION
Virginia Code § 58.1-301 provides that terminology and references used in Title 58.1 of the Virginia Code will have the same meanings as provided in the IRC unless a different meaning is clearly required. Virginia "conforms" to federal law because it starts the computation of Virginia taxable income with federal adjusted gross income ("FAGI").
Virginia Code § 58.1-325 A provides that:
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- The Virginia taxable income of a nonresident individual, partner or beneficiary shall be 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.
Under Treasury Reg. § 1.707-1 c, payments made by a partnership to partners for services or the use of capital are not treated as paid to a person who is not a partner if such payments are determined without regard to the income of the partnership. Such payments are treated as ordinary income by the individual receiving the payment. Therefore, guaranteed payments would not be treated as income from a trade or business for Virginia income tax purposes.
In this case, the personal services agreement states that the Taxpayer would receive a flat annual salary plus a bonus. These payments were made to the Taxpayer for services without regard to the income of the Company. The payments were properly characterized as "guaranteed payments," and were reported as such on the Taxpayer's Form K-1. Under Treasury Reg. § 1.707-1 c, the guaranteed payments are ordinary income to the Taxpayer and are attributed to the place where the services are performed. The Taxpayer performed all of the income generating services in State A. Accordingly, the guaranteed payments made to the Taxpayer are not considered to be Virginia source income.
Pursuant to Title 23 of the Virginia Administrative Code ("VAC") 10-110-180, a nonresident individual's income subject to Virginia tax is his Virginia taxable income computed as a resident multiplied by the ratio of net income, gain, loss and deductions from Virginia sources to net income, gain, loss and deductions from all sources. Virginia relies on the amount and character of each item of income reported on the federal return and supporting schedules to determine net income, gain, loss and deductions included in the ratio for computing nonresident taxable income. In this case, the guaranteed payments made to the Taxpayer should be included only in the denominator of the nonresident apportionment ratio.
Based on the foregoing, the assessment of tax, penalty and interest issued to the Taxpayer for the taxable year ended December 31, 2001, will be abated. The Code of Virginia and regulation sections cited, as well as other reference documents, are available on-line in the Tax Policy Library section of the Department's web site, located at www.policylibrary.tax.virginia.gov.
If you have any have any questions regarding this determination, you may contact ***** in the Office of Policy and Administration, Appeals and Rulings, at *****.
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- Sincerely,
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- Kenneth W. Thorson
Tax Commissioner
- Kenneth W. Thorson
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AR/53204B
Rulings of the Tax Commissioner