Credit : Taxes Paid to Another State - North Carolina
September 29, 2020
Re: § 58.1-1821 Appeal: 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, 2018.
FACTS
The Taxpayers filed a 2018 Virginia resident income tax return, claiming a deduction for income from a North Carolina business. The Department disallowed the Taxpayers’ deduction and issued an assessment. The Taxpayers disputed the assessment, claiming they had paid taxes to North Carolina and were entitled to the deduction.
The Department informed the Taxpayers that a tax credit, rather than a deduction, is available for taxes paid to another state and requested additional information to verify the amount of credit to which the Taxpayers were entitled. Based upon the information provided by the Taxpayers, the Department adjusted the Taxpayers’ Virginia return to claim a credit for taxes paid to another state, resulting in a decrease in the assessment. The Taxpayers appeal the Department’s assessment, claiming the credit allowed did not cover all of the taxes paid.
DETERMINATION
Virginia Taxable Income
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 federal adjusted gross income (FAGI). Income 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 Virginia Code § 58.1-322.01 through § 58.1-322.04. Virginia’s individual income tax statutes does not provide a subtraction or deduction for income earned in another state.
Out of State Tax Credit
Virginia Code § 58.1-332 A allows Virginia residents, who are liable for an income tax in another state, to claim a credit on their Virginia return. To claim the credit, the income must be either earned or business income or gain from the sale of a capital asset, derived from sources outside Virginia, and subject to Virginia’s income tax.
As a general rule, the credit is limited to the lesser of: (1) the amount of tax actually paid to the other state; or (2) the amount of Virginia income tax actually imposed on the taxpayer on the income derived in the other state. In the case of a Virginia resident who pays income tax to a state that borders Virginia, like North Carolina, a special rule can apply.
If certain criteria are met, the limitation that restricts the credit to the amount of Virginia income tax actually imposed on the taxpayer on the income derived in the other state is disregarded. The special rule will apply if the income subject to tax in a single state contiguous to Virginia is less than Virginia taxable income and all of the income from sources outside Virginia is earned income or business income reported on federal form Schedule C from that single contiguous state. In such instances, the Virginia resident will be entitled to a credit equal to the lesser of: (1) the amount of income tax actually paid to the contiguous state; or (2) 100% of their Virginia income tax liability. See Virginia Code § 58.1-332 A. Because the North Carolina income at issue satisfies all the requirements, the special border state credit rule would apply.
Under either rule, in order to claim the credit, Virginia residents must be both liable for and pay the income tax due to the other state. See Virginia Code § 58.1-322 A.
In this case, both the North Carolina and Virginia returns provided contained numerous errors, which made it difficult to calculate the amount of the Taxpayers’ North Carolina income tax liability and corresponding Virginia credit. Similar to the Virginia return, the Taxpayers appear to have simply deducted what they considered to be income from Virginia sources on the North Carolina return. Based on the return information provided, it appears the Taxpayers over paid North Carolina income tax.
CONCLUSION
The Department was correct in disallowing the deduction claimed on the Taxpayers’ Virginia return because there is no such modification available in the Code of Virginia. The Department also correctly recognized the Taxpayers were eligible to claim a tax credit for taxes paid to another state and adjusted their return to claim the credit based upon the best information available. Without an accurate computation of the Taxpayers’ 2018 North Carolina liability, the assessment at issue is upheld.
The Taxpayers will receive an updated bill, which will include accrued interest to date. The Taxpayers should remit the balance due within 30 days of the bill date to avoid the accrual of additional interest.
The Code of Virginia sections cited are available online at www.tax.virginia.gov in the Laws, Rules & Decisions section of the Department’s website. 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/3354-C