09-112 | Virginia Tax

Tax Type

Individual Income Tax

Description

New corporation voided the ten-year retirement payout plan and a lump-sum payment was made

Topic

Constitutional Provisions

Corporate Distributions and Adjustments

Statute of Limitations

Taxability of Persons and Transactions

Date Issued

07-16-2009

July 16, 2009

Re: § 58.1-1824 Application: Individual Income Tax

Dear *****:

This will reply to your letter in which you seek a, refund of income tax paid by ***** (the "Taxpayers") for the taxable year ended December 31, 1997. I apologize for the delay in responding to your letter.

FACTS

The Taxpayers, a husband and wife, were residents of ***** ("State A"). In 1990, the husband retired from a corporation operating in State A. The retirement agreement granted the husband a ten-year payout as part of his retirement, which was to be treated as compensation.

In 1991, the Taxpayers moved to Virginia. They filed Virginia resident and State A nonresident returns that reported the retirement payouts as income. The Taxpayers claimed a credit for income tax paid to State A on their Virginia returns.

In 1997, the husband's former employer was purchased by another corporation through a stock acquisition. The acquiring corporation voided the ten-year retirement payout plan and a lump-sum payment was made to the husband. Subsequent to the merger, a review of the payout plan and lump-sum payments by the Internal Revenue Service (IRS) resulted in a closing agreement. Under the closing agreement, payments made prior to 1997 and the 1997 lump-sum payment were treated as dividends and a capital gain, respectively.

Pursuant to the closing agreement, the Taxpayers amended their 1994 through 1996 Virginia and State A income tax returns and paid the additional tax and interest due to Virginia. For the 1997 taxable year, the Taxpayer's reported all their income as income from Virginia sources and claimed no credit for tax paid to State A.

State A audited the Taxpayer for the 1997 taxable year and issued an assessment. The audit concluded that State A was not subject to the closing agreement and determined that the lump-sum payment received in 1997 was compensation subject to State A income tax. After a prolonged appeal process, the Taxpayers accepted an offer from State A on October 25, 2006, and agreed to reclassify a portion of the income as a lump-sum payment as compensation, interest and gains from State A sources.

The Taxpayers filed an amended 1997 Virginia income tax return on October 11, 2007, claiming a credit for tax paid to other states pursuant to the agreement made with State A. The Taxpayers request that the Department accept this return as timely filed and issue a refund.

DETERMINATION

Credit for Tax Paid Other State

Virginia Code § 58.1-332 A allows Virginia residents a credit against their income tax liability when they pay income tax to another state on earned or business income, or on any gain from the sale of a capital asset. The intent of the credit is to grant Virginia residents relief in situations where they are taxed by both Virginia and another state on these types of income during the same taxable year. The credit is claimed on the income tax return for the same taxable year in which the income is subject to taxation by another state, even though the taxis actually paid during the succeeding taxable year when the return is filed. The credit may not be claimed, however, if the other state has a credit that is substantially similar to the one provided by Virginia.

In this case, State A does not provide a credit for its residents substantially similar to Virginia's. Pursuant to the agreement with State A, the Taxpayers paid State A income tax on a portion of the lump-sum payment. The differences between the State A agreement and the IRS agreement are a matter of interpretation of the Internal Revenue Code (IRC). Thus, the Department must determine whether the income subject to tax under the State A agreement qualifies for the out-of-state tax credit.

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 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 (FAG/).

The Taxpayer entered into a closing agreement with the IRS stipulating how the income would be included in FAGI. Based on Virginia's conformity to the IRC, the Department will generally follow the treatment of income in an IRS agreement. See Public Document (P.D.) 05-19, (2/28/2005). As such, the Department would consider changing the treatment of an item of income or loss in an IRS agreement if such treatment directly conflicts with the IRC. After careful analysis, I conclude that the Taxpayers correctly filed amended Virginia income tax returns in accordance with the IRS agreement.

Under the IRS agreement, the lump-sum payments were treated as capital gains. Typically, gains from the sale of stock are treated as income from capital assets pursuant to IRC § 1221. Because this type of income is eligible for the out-of-state tax credit, the Taxpayers would be eligible for a credit against income tax paid to State A on their Virginia resident income tax return provided that their 1997 amended return was timely filed. Pursuant to Va. Code § 58.1-332, the credit would be limited to the lesser of: (i) the amount of tax actually paid to the other state; or (ii) the amount of Virginia income tax actually imposed on the taxpayer on the income earned or derived in the other state.

Amended Returns

Under Va. Code § 58.1-312 A 4, effective for audits by other states completed on or after July 1, 2006, a taxpayer has one year from the final determination of a change made by any other state to file an amended return to request a refund resulting from credits for taxes paid to other states. Pursuant to § 58.1-311.1, a taxpayer must have claimed a credit for taxes paid to the other state on a previous income tax return in order for the statute of limitations exception under Va. Code § 58.1-312 A 4 to apply. The Taxpayers claimed a credit for taxes paid to State A on their 1997 amended income tax return.

For purposes of this statute, and in the case of the Taxpayer, the State A audit was not considered to be completed until the Taxpayers entered into a final agreement with State A Tax on October 25, 2006. As such, the statute of limitations for the Taxpayers to file an amended 1997 resident Virginia return and claim the appropriate credit for tax paid to State A remained open through October 24, 2007.

The Taxpayers filed their 1997 amended return on October 11, 2007, well before the statute of limitations expired on October 24, 2007. Accordingly, their return was timely filed and will be processed in due course.

The Code of Virginia sections cited, along with other reference documents, are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's web site. If you have any questions regarding this response, you may contact ***** in the Office of Tax Policy, ,Appeals and Rulings, at *****.

- - - - Sincerely,

- - - - Janie E. Bowen
        Tax Commissioner

AR/1-1862700953.B

Rulings of the Tax Commissioner