Tax Type
Individual Income Tax
Description
Consultation fees to children; Deduction adjustments by the I.R.S.
Topic
Persons Subject to Tax
Date Issued
11-09-1992
November 9, 1992
Re: §58.1-1821 Application: Individual Income Tax
Dear****************
This is in response to your request for correction of an individual income tax assessment issued by the Department of Taxation which results from changes made to your federal income tax return for taxable year 1985.
FACTS
In 1985, you paid to each of your two sons,**********and ***************equal amounts as investment consultation fees, and you deducted these amounts on your original federal and Virginia income tax returns as itemized deductions. You allege that your two sons reported these amounts as taxable income on each of their federal and state income tax returns for 1985. The department has no record of having received any tax payments or tax returns from either of your two sons for the taxable year 1985.
Subsequently, the Internal Revenue Service (the "Service") examined your 1985 federal income tax return. Initially, an adjustment was made by the Service which disallowed the total amount of itemized deduction claimed as investment consultation fees paid to your sons. As a result of the disallowance of the deduction claimed on your original return, your sons were advised to file amended returns, claiming refunds for taxes paid that were attributable to the consulting fees, which the Service reclassified as nontaxable gifts to each of your sons.
However, because one of your sons was barred by the statute of limitations from filing an amended return and receiving a refund, the Service agreed not to reduce the disallowed deduction by the entire amount you originally claimed on your federal return to take into account the taxes paid by both of your sons.
The Virginia Department of Taxation made a corresponding adjustment to your 1985 income tax return, which included the disallowance of investment expenses claimed on federal Schedule A (itemized deductions) equal to the final settlement amount, which was less than the original deduction you claimed, in addition to a reduction in interest income.
DETERMINATION
Va. Code §58.1-311 requires that if an individual taxpayer's federal taxable income reported on his federal income tax return for any taxable year is changed or corrected by the Service, the taxpayer is required to report such changes or corrections to the department within 90 days after the final determination of such change. Va. Code § 58.1-312 gives the department the authority to assess the tax due when a taxpayer fails to report a change or correction increasing his federal taxable income or file an amended return. In the instant case, the Service notified the department of the increase in your federal taxable income for taxable year 1985 and the department billed you for the additional tax due plus interest.
You assert that Virginia's use of the federal income adjustments resulted in a degree of "double taxation" as your sons previously paid tax to other states on income that should have been reported by you. To the contrary, however, our acceptance of the federal adjustments provides you with a more positive Virginia tax situation than you would have had you never deducted the consulting fees.
As the federal audit determined that you should not have deducted the $********** "paid" to your sons, which would have resulted in an increase in your taxable income by the same amount; all of this income rightfully should have been taxed by Virginia. However, because the federal adjustment took into account taxes paid by your sons, and because the federal adjustment amount was used in computing our assessment, Virginia is in fact not asserting all of the state tax you should have paid for taxable year 1985. You have, therefore, received a benefit from taking a deduction that you should have never taken in the first place.
Based upon the circumstances, the department will not assert any additional tax although we have the right to do so; however, the current assessment is valid and is now due and payable in full.
Sincerely,
W. H. Forst
Tax Commissioner
OTP/4679O
Rulings of the Tax Commissioner