February 24, 2026
Re: § 58.1-1821 Application: Corporate Income Tax
Dear *****:
This will reply to your letter in which you seek a refund of corporate income taxes paid by ***** (the “Taxpayer”) for the taxable years ended December 31, 2008, through 2011.
FACTS
For the taxable years at issue, the Taxpayer filed consolidated federal and separate Virginia corporate income tax returns. On its Virginia returns, the Taxpayer added back intercompany royalty expenses to federal taxable income for purposes of computing its Virginia taxable income. These expenses had been passed through to the Taxpayer, which was a corporate owner of a multi-tiered pass-through entity structure, the bottom tier of which included partnerships (LPs) that had entered into licensing agreements with an affiliated entity (“***”) for the use of its trademarks. The LPs operated national chains of service providers through both company-owned and franchised stores. The Taxpayer did not claim any exception to the add-back. In addition, the Taxpayer reported a net operating loss (NOL) in the 2003 taxable year that it carried forward and utilized to claim a net operating loss deduction (NOLD) against federal taxable income (FTI) for the 2008 and 2009 taxable years.
Under audit, the Department concluded that the Taxpayer had failed to properly make an election to forgo the two-year carryback for the NOL incurred in 2003. As such, the 2003 NOL was carried back two years and fully utilized in the 2001 and 2002 taxable years. This adjustment had the effect of reducing the Taxpayer’s accumulated NOLD carryforward available for taxable years subsequent to 2003. Such carryforward, as reduced, was applied in full for the 2008 taxable year, and no carryforward remained to be applied for the 2009 taxable year. Further, Virginia modifications that had been reported along with the NOLs for the 2004 through 2006 taxable years and for the first part of the 2007 taxable year (a short year for filing purposes) were applied proportionally along with the NOLD carryforwards for the second 2007 short taxable year and the 2008 taxable year. As a result of these NOLD-related adjustments, the Taxpayer was assessed additional tax due for each of the 2008 and 2009 taxable years.
The Taxpayer paid the assessments and appealed, contending that it should be permitted to adjust the net Virginia modifications carried forward with the NOLs incurred in the 2004 through 2007 taxable years even though it did not claim such modifications on its original returns for those years. It also filed a protective claim for refunds of corporate income taxes paid for the 2008 through 2011 taxable years claiming that it was eligible for an exception to the add-back of the royalties because *** indirectly received at least one third of its intangible licensing revenue from independently-owned franchisees.
DETERMINATION
Protective Claim
Pursuant to the authority granted the Department under Virginia Code § 58.1-1824, a protective claim for refund can be held pending the outcome of another case before the courts or the claim may be decided based upon its merits pursuant to Virginia Code § 58.1-1821. As permitted by statute, the Taxpayer’s request has been treated as an application for correction under Virginia Code § 58.1-1821.
Timeliness of Request to Adjust Modifications
Pursuant to Virginia Code § 58.1-1823, taxpayers generally must file amended returns within three years of the last day prescribed by law for timely filing of the return. Virginia Code § 58.1-1823 also provides certain exceptions to the general rule that are not relevant in this case.
In addition, Virginia Code § 58.1-1824 provides that “[a]ny person who has paid an assessment of taxes administered by the Department of Taxation may preserve his judicial remedies by filing a claim for refund with the Tax Commissioner . . . within three years of the date such tax was assessed.” The date of assessment for assessments made by the Department is the date the notice of assessment is delivered, and for self-assessments made by a taxpayer upon filing a return is the date the tax is paid or the return is filed. See Virginia Code § 58.1-1820 2. For self-assessments where the return is filed or the tax is paid before the last day prescribed by law for filing or payment, the date of assessment is such last day. Id.
In April 2012, in response to the audit staff’s proposed adjustment to its NOLDs, the Taxpayer requested that the Department take into account previously unreported net Virginia modifications for the 2004 through 2006 taxable years and for the first short return part of the 2007 taxable year. Under the general rule, the last day to file an amended return for any of those years was October 15, 2011, three years after the due date for the taxable year ended July 24, 2007.
Each assessment for the 2004 through 2006 taxable years and for the first short return part of the 2007 taxable year was a self assessment made with the original or amended return filed by the Taxpayer. Accordingly, the last day for filing a protective claim for any of those assessments was the same as the date for filing an amended return under Virginia Code § 58.1-1823.
The Taxpayer’s request to take into account the modifications was made in April 2012, after the statute of limitations to file an amended return or a protective claim for those years had expired.
Modification Carryback and Carryforward
The Taxpayer contends it should be permitted to adjust net Virginia modifications for the 2004 through 2006 taxable years and for the first short return part of the 2007 taxable year to claim an exception to the add-back of royalties and a deduction of foreign source income attributable to years prior to the audit period even though the request was untimely.
The Taxpayer believes such treatment is appropriate because the Department has found it proper to examine NOLs for taxable years outside the limitations period for assessments under Virginia Code § 58.1-1812 and make positive or negative adjustments to the amount of the available NOL. See Public Document (P.D.) 94-154 (5/23/1994), P.D. 08-193 (12/4/2008), P.D. 13-213 (11/18/2013), and P.D. 24-8 (2/28/2024).
Virginia income tax laws do not address carryover deductions, including NOLDs, capital losses, and charitable contributions. Nonetheless, Virginia Code § 58.1-301 provides, with certain exceptions, that terminology and references used in Title 58.1 of the Code of Virginia have the same meaning as provided in the Internal Revenue Code (IRC), unless a different meaning is clearly required. Because the starting point in computing Virginia taxable income is FTI, Virginia allows a NOLD to the extent that it is allowable in computing FTI. For taxable years open under the statute of limitations for assessments, the amount of any federal carryover deductions used to determine FTI must conform to the IRC as it applies to the Virginia taxpayer. Thus, adjustments to the amount of a NOLD are required in order to ensure that a taxpayer’s FTI reported for a taxable year within the statute of limitations conforms to the IRC in accordance with Virginia Code § 58.1-301.
Pursuant to Title 23 of the Virginia Administrative Code (VAC)10-120-100 B 5 (iii), net Virginia additions and subtractions (net Virginia modifications) reported for a taxable year in which an NOL occurred must follow the NOL to the year a NOLD is claimed and must be reported to the same extent as the NOLD. For example, if 50% of a NOLD is carried forward to a taxable year, then 50% of the net Virginia modifications will also be carried to the same taxable year.
Unlike a NOLD, however, net Virginia modifications that follow the NOLD do not impact the FTI for the taxable year to which they are carried. Thus, once the statute of limitations to file an amended income tax return for the taxable year in which the NOL occurred has expired, no adjustments can be made to the additions and subtractions that are included in the net Virginia modifications. The only adjustment that can be made to net Virginia modifications would be to change the percentage of the modifications claimed to correspond proportionally with the amount of a NOLD used to reduce FTI.
Unrelated Member Exception
The Taxpayer filed Schedule 500AB with its original 2008 through 2011 Virginia corporate income tax returns, adding back 100% of the royalties deducted on its federal income tax returns. The Taxpayer requests a refund of corporate income taxes paid on the basis that it is entitled to an exception to the add-back because *** indirectly received more than one-third of its gross revenues from the LPs’ independently owned franchisees.
Virginia Code § 58.1-402 B 8 provides that there shall be added back:
[T]he amount of any intangible expenses and costs directly or indirectly paid, accrued, or incurred to, or in connection directly or indirectly with one or more direct or indirect transactions with one or more related members to the extent such expenses and costs were deductible or deducted in computing federal taxable income for Virginia purposes.
The statute provides several exceptions to the general rule that an add-back is required. The exception at issue is Virginia Code § 58.1-402 B 8 a 2, which states:
This addition shall not be required for any portion of the intangible expenses and costs if one of the following applies: . . . (2) The related member derives at least one-third of its gross revenues from the licensing of intangible property to parties who are not related members, and the transaction giving rise to the expenses and costs between the corporation and the related member was made at rates and terms comparable to the rates and terms of agreements that the related member has entered into with parties who are not related members for the licensing of intangible property.
In Public Document (P.D.) 09-14 (2/4/2009), the Department determined that the licensing agreements for the use of intangible property must be between an unrelated party and the related entity that owns the intangible property. As such, the exception for licensing at least one third of its gross revenues to an unrelated member was not met in that case because the related member did not receive the intangible property revenue directly from the unrelated franchisees.
The City of Richmond Circuit Court, however, overruled P.D. 09-14 in Wendy’s International v. Virginia Department of Taxation, CL09-3757 (3/29/2012). The court held that the exception merely requires that the related member derive at least one third of its gross revenues from the licensing of intangible property to parties that are not related members because the statute does not distinguish as to whether the gross revenues were directly or indirectly licensed to an intangible holding company. Therefore, the exception could be claimed when intangible holding companies indirectly license intangible property to independent franchisees through operating companies.
However, Virginia Code § 58.1-402 B 8 a 2 also requires that:
the transaction giving rise to the expenses and costs between the corporation and the related member was made at rates and terms comparable to the rates and terms of agreements that the related member has entered into with parties who are not related members for the licensing of intangible property. [Emphasis added.]
The City of Richmond Circuit Court’s decision in Wendy’s did not analyze whether this second statutory requirement was met. The language of Virginia Code § 58.1-402 B 8 a 2 requires an examination of the terms of the agreements “that the related member has entered into with parties who are not related members.” The statute thus clearly anticipates that there will be contracts directly between the related member and an unrelated member available for the Department to examine.
By reason of their character as legislative grants, statutes relating to exemptions allowable in computing income and credits allowed against a tax liability must be strictly construed against the taxpayer and in favor of the taxing authority. See Howell’s Motor Freight, Inc., et al. v. Virginia Dep’t of Taxation, No. 82-0846 (Roanoke Cir. Ct. Oct. 27, 1983). In addition, it has been a longstanding principle of statutory construction that every part of a statute should be interpreted so as to give it some effect, and that interpretations that render words or phrases in a statute superfluous or repetitious should be avoided. See Platt v. Union P.R. Co., 99 U.S. 48, 58-59 (1878) and PSINet, Inc. v. Chapman, 362 F.3d 227, 232 (4th Cir. 2004). The court’s determination in Wendy’s effectively renders superfluous the language of Virginia Code § 58.1-402 B 8 a 2 that requires an examination of the terms of the agreements “that the related member has entered into with parties who are not related members.”
In this case, ***’s gross license revenue was derived from royalties paid by unrelated third-party franchisees through the LPs. *** does not have any agreements with any unrelated third parties. Under such circumstances, the specific language of the statute was not met because ***, the related member, did not have any contracts with unrelated members, the terms of which the Department could review.
Even if the court’s opinion in Wendy’s is interpreted to mean that licensing agreements between the LPs and franchisees were indirect agreements between *** and the franchisees, the rates and terms would not be the same. The franchisees’ agreements with the LPs incorporated a license of intangible assets with terms for business operations, accounting, uniforms, insurance, confidentiality, training, covenants not to compete, marketing, and advertising. ***’s agreements with the LPs were limited to the licensure, maintenance, and protection of tradenames and trademarks. Further, while the franchise agreements acknowledged *** as the owner of the trademarks, the franchise agreements did not specify a royalty rate. Instead, the franchisees were required to pay the LPs a franchise fee based on a percentage of total revenue. The LPs then paid a royalty based on a percentage of revenue that was realized by the franchisees, which was a different percentage from the rate paid for company-owned stores.
In addition, the licensing agreements granted the LPs certain powers over the use and protection of the trademarks not granted to the franchisees. Under the agreements, the LPs were permitted to allow franchisees to use ***’s trademarks. None of the franchisees were granted similar rights or privileges with regard to the trademarks.
As stated above, Virginia Code § 58.1-402 B 8 a 2 requires that the rates and terms between a taxpayer and related member be comparable to the rates and terms between the related member and unrelated third parties. Not only does *** not have agreements with independent franchisees, based on the evidence provided, the rates and terms of the trademark licensing agreements between *** and the LPs were substantially different from the LPs’ franchise agreements with the independent franchisees. Accordingly, the Taxpayer does not meet the unrelated member exception under Virginia Code § 58.1-402 B 8 a 2.
CONCLUSION
For the reasons discussed above, the Taxpayer could not carry previously unclaimed modifications forward from the 2004 through the first 2007 short taxable year because such years were outside the statute of limitations for assessment. In addition, it did not meet the unrelated member exception under Virginia Code § 58.1-402 B 8 a 2 and therefore was required to add back the royalty expenses as reported on its original Virginia corporate income tax returns. Accordingly, Taxpayer’s request for refunds of corporate income tax paid for the taxable years ended December 31, 2008, through 2011, is denied.
The Code of Virginia sections and regulation cited are available online at law.lis.virginia.gov. The public documents cited are available at 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 and Legal Affairs, Tax Adjudication and Resolution Division, at ***** or *****.
Sincerely,
Kristin L. Collins
Tax Commissioner
Commonwealth of Virginia
AR/524.X