Tax Type
Individual Income Tax
Description
Taxes paid by residents to other states; Capital gain tax on timber sale.
Topic
Credits
Date Issued
01-13-1998
January 8, 1998
Dear*************:
This will reply to your letter in which you protest the disallowance of an out-of-state tax credit for income tax paid to another state claimed by your client, *** (the "Taxpayer"), for the taxable year ending December 31, 1994.
FACTS
The Taxpayer was a Virginia resident in 1994. The Taxpayer owned and operated a farm located in a state other than Virginia and filed a Schedule F, Profit or Loss from Farming, with her federal income tax return.
During 1994, the Taxpayer sold standing timber on the farm resulting in a capital gain for federal income tax purposes. This resulted in the Taxpayer paying an income tax to the state in which the farm was located. When the Taxpayer filed a 1994 Virginia resident individual income tax return, an out-of-state tax credit was claimed for the income tax paid to the other state.
The Taxpayer's 1994 Virginia return was subject to an office audit. The Taxpayer's out-of-state tax credit was disallowed and an assessment was issued. You protest the denial of this credit, and request that the Taxpayer be granted relief from the assessment.
DETERMINATION
Code of Virginia § 58.1-332 (A) provides a credit when a Virginia resident becomes liable to another state for income tax on any earned or business income derived from sources outside Virginia.
The department denied the credit claimed by the Taxpayer because the gain from the sale of the timber did not appear to constitute business income. You contend that the farm was engaged in an active trade or business, and the sale of the timber is business income within the meaning of the statute.
Title 23 VAC 10-110-221 of the Virginia Administrative Code (copy enclosed) defines "business income" as:
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- income derived from an activity which constitutes a "business" for federal income tax purposes for which a federal Schedule C, E, or F must be filed, for example, a sole proprietorship, provided that if the business incurred a loss such loss would be allowable under federal law. Thus, income from hobbies and other activities not engaged in primarily for profit is not business income even though a Schedule C, E, or F may be filed for such activities.
- income derived from an activity which constitutes a "business" for federal income tax purposes for which a federal Schedule C, E, or F must be filed, for example, a sole proprietorship, provided that if the business incurred a loss such loss would be allowable under federal law. Thus, income from hobbies and other activities not engaged in primarily for profit is not business income even though a Schedule C, E, or F may be filed for such activities.
At issue here is whether a gain from the sale of timber by an operating farm is business income within the meaning of 23 VAC 10-110-221.
Pursuant to Internal Revenue Code (IRC) § 631 (a), certain taxpayers may elect to treat the difference between the actual cost or other basis of certain timber cut during the taxable year and its fair market value as standing timber on the first day of such year as gain or loss from a sale or exchange under IRC § 1231. Under IRC § 1231, such timber is considered to be property used in the trade or business of the taxpayer so that the gain may be treated as long-term capital gain.
In the instant case, the Taxpayer received capital gain income from the sale of timber cut on an operating farm. Such gain is considered income from a trade or business since the farm was operated on a regular and continuous basis and therefore the timber sale would constitute business income.
Accordingly, your request for relief from the assessment is granted. If you have any questions regarding this determination, please contact *** of the Office of Tax Policy at ***.
Sincerely,
Danny M. Payne
Tax Commissioner
Rulings of the Tax Commissioner