September 8, 2020
Re: § 58.1-1821 Application: Individual Income Tax
Dear *****:
This will respond to your letter in which you seek correction of the individual income tax assessment issued to ***** (the “Taxpayers”) for the taxable year ended December 31, 2014.
FACTS
The Taxpayers, a husband and wife, resided in Virginia during the taxable year at issue. ***** (the “Decedent”) owned real property in Virginia. When she died intestate in June 2008, the husband and his three siblings, as heirs of her estate, each received a one-quarter interest in real property owned by the decedent.
During 2014, the siblings sold their interests in the real property to the husband. That same day, the husband sold the property to an unrelated third party. The Taxpayers claimed a capital loss on their 2014 federal income tax return from the sale of the property utilizing the value from a March 2007 appraisal as the basis. The loss was reflected in the federal adjusted gross income (FAGI) on their Virginia return.
Upon review, the Department adjusted the basis of the property to the amount appraised by ***** (the “County”), resulting in a capital gain and the assessment of additional income tax. The Taxpayers appeal, contending they properly used the March 2007 appraised value as the basis.
DETERMINATION
Virginia Code § 58.1-301 provides, with certain exceptions, that the 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 (VTI) with 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.
Inherited Property Basis
The Taxpayers contend that based on the 2007 appraisal, the basis of the property when the decedent died was greater than the sale price of the property. As such, the transaction resulted in a capital loss.
Generally, the basis of property passing from a decedent after her death is the fair market value of the property at the date of the decedent’s death. See IRC § 1014(a)(1). The value of property appraised for the federal estate tax is deemed to be the fair market value for purposes of determining basis. See Treas. Reg. § 1.1014-3. Pursuant to 26 CFR § 20.6011-1, with certain exceptions, a federal estate tax return must be filed for all estates.
The Department requested that the Taxpayers provide the appraisal report and the Decedent’s federal estate tax return. The Taxpayers did not provide either the appraisal report or the Decedent’s estate tax return, but instead have sent a letter from the appraiser specifying the appraised value of the property. The Department does not consider a letter from an appraiser stating the value of property in lieu of an actual appraisal report as sufficient evidence of valuation. Regardless, the property was valued 15 months prior to the decedent’s death, which was beyond the time permitted under IRS rules.
The Department used the County’s appraisal of fair market value to determine the basis of the subject property. Pursuant to Virginia Code § 58.1-3280, a locality’s appraisal of the value of real property is used to ascertain real property tax liability. The amount for which real property was assessed for purposes of local taxation, however, is not necessarily a reliable criterion to be used in estimating its fair market value. See Frazee v. Commissioner, 98 T.C. 554, 563 (1992). In appropriate circumstances, tax-assessed values can be useful as a guideline or as corroboration of other evidence of fair market value. See Kellahan v. Commissioner, T.C. Memo 1999-210. In the case where the Department doubts the validity of a Taxpayer’s valuation, it must likewise determine an estimate of fair market value in accordance with IRS regulations.
Basis from Sale
In the alternative, the Taxpayers believe the basis of the real estate at the time of the sales is an appropriate valuation. Pursuant to IRC § 1001, the gain from the sale of property is the amount realized over the adjusted basis. The basis of property is generally the cost of such property. See IRC § 1012. The Taxpayers purchased the husband’s siblings’ interests in the property just prior to the sale to the unrelated third party. As such, the basis of the property interests purchased from the husband’s siblings should be the amount the Taxpayers paid. Adjustments to basis, however, are justified where, for instance, transactions between related parties are not conducted at arm’s length or where a transaction is based upon “peculiar circumstances” that influence the purchaser to agree to a price in excess of the property’s fair market value. See Revenue Ruling 89-102 (1989).
In this case, because the purchase was made between siblings, it is questionable whether they were made at arm’s length. There is no evidence of the fair market value of the siblings’ interest in property at the time of the sale. In addition, the fact that the property was immediately resold after the purchase of the siblings’ interest would qualify as a “peculiar circumstance.” No doubt, the siblings were aware of the Taxpayer’s plan to resell the entire property after their transaction, impacting their negotiating position.
CONCLUSION
While the Department cannot agree to the valuation set forth by the Taxpayers, reliance on a locality’s valuation for real estate taxes does not meet the standard of valuation required of the IRS in such cases. Accordingly, the case will be returned to the Department’s audit staff in order to acquire documentation or other evidence showing the fair market value for the subject property at the time of the Decedent’s death. Adjustments to the assessment as required by law will be made based on the additional documentation, as appropriate.
The Code of Virginia sections 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 *****.
Sincerely,
Craig M. Burns
Tax Commissioner
AR/3316.B