How did Virginia calculate a resident couple's credit when some other-state tax was paid through a partnership's unified nonresident returns?

Subject

Credit for taxes paid other states

Plain-English summary

A Virginia married couple claimed credits for income tax paid to four other states. For three states, a partnership in which the wife was a partner had paid nonresident tax through unified returns. Virginia initially disallowed those portions because the submitted records did not adequately verify her distributive share and the tax paid.

With additional partnership and payment documentation, Virginia recognized unified-return tax as paid by the individual partner. The deemed payment generally equaled the partner's income percentage multiplied by the partnership's tax payment. But the Virginia credit was not automatically the full other-state tax: for each state, it was limited to the lesser of the tax actually paid or the Virginia income tax imposed on the income taxed by that state.

For the three unified returns, the wife was treated as having filed separately because the other-state tax did not account for marital status. The Virginia credit calculation therefore had to remove the husband's income, exemptions, and deductions. A fourth state's jointly imposed tax was recalculated under separate guidance, and every state's credit was computed independently.

Virginia adjusted the 2004 return under this method, abated the assessment, and stated that a refund would issue based on the enclosed revised schedule.

What this means for you

• Virginia can recognize a partner's share of tax paid through another state's unified or composite-style return when supported by adequate records.
• The credit is capped by Virginia tax on the same income, so proof of payment alone does not establish the allowed amount.
• Filing status, exemptions, deductions, ownership percentage, and differences between state tax bases can materially change the calculation.
• Credits for multiple states must be calculated separately.

Citations and references

• Va. Code § 58.1-332, credit for qualifying income tax paid to another state.
• P.D. 95-96 (May 1, 1995), conversion and limitation methodology.
• P.D. 96-206 (August 21, 1996), separate-spouse credit calculation.

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 07-48

Original ruling text

April 26, 2007

Re: § 58.1-1821 Application: Individual Income Tax

Dear *:

This will reply to your letter in which you seek correction of an individual income tax assessment issued to * (the "Taxpayers"), for the 2004 taxable year. I apologize for the delay in responding to your appeal.

FACTS

The Taxpayers, a husband and wife, are Virginia residents who claimed credit for income tax paid to other states on their Virginia individual income tax return filed for the 2004 taxable year. The credit was claimed for income tax paid to four other states. For three states, the tax resulted from unified returns filed by a partnership in which the wife is a partner.

The Department requested documentation from the Taxpayers to verify the computation of the credit claimed as paid to each state. The portion of the out-of-state credit claimed based on income tax paid by the partnership was disallowed because the information provided was not sufficient to verify the wife's distributive share of the taxable income and tax paid through the unified returns. An assessment was issued for the resulting balance due.

The Taxpayers state that the credits were based on the documentation provided by the partnership, which specifies the taxable income and tax credit or similar information for each state. Additional information has also been provided verifying the wife's partnership interest and the tax paid on the unified returns. The Taxpayers request that the Department accept the documentation as proof of payment and that the credit be allowed as computed.

DETERMINATION

Virginia Code § 58.1-332 allows Virginia residents a credit on their Virginia individual income tax return for income taxes paid to another state provided the income is either earned or business income, or gain from the sale of a capital asset upon proof of such payment. Virginia Code § 58.1-332 A, in pertinent part, places a limitation on the credit::

The credit allowable under this section shall not exceed . . . such proportion of the income tax otherwise payable by him under this chapter as his income upon which the tax imposed by the other state was computed bears to his Virginia taxable income upon which the tax imposed by this Commonwealth was computed . . .

Therefore, Virginia law does not automatically allow a taxpayer to claim a credit for the total amount of tax paid to another state. Rather, the credit is limited to the lesser of: (i) the amount of tax actually paid to the other state (the "tentative credit"); or (ii) the amount of Virginia income tax actually imposed on the taxpayer on the income earned or derived in the other state (the "limitation"). The limitation is computed by multiplying the individual's Virginia tax liability by a fraction, the numerator of which is the income upon which the other state's tax is imposed, and the denominator of which is Virginia taxable income. Further, many states use a different tax base than does Virginia, resulting in the need to convert the other state's tax base to a Virginia equivalent. See Public Document (P.D.) 95-96 (5/1/1995).

Like Virginia, some other states allow the filing of a unified return as an administrative convenience that allows partners to pay their respective state tax at the entity level. If a nonresident individual has paid taxes to another state through inclusion in the filing of a unified return by a partnership, the Department will recognize payment of the tax as if it were paid directly by the individual partner. In general, the amount of tax deemed to have been paid by the partner will be the product of the partner's percentage of income multiplied by the amount of income tax paid by the partnership. The credit is computed in accordance with the limitations set forth under Va. Code § 58.1-332.

For the three states in which the partnership filed unified returns, the wife is considered to have filed separately. The tax paid in each state was computed without consideration of marital status. The Department has previously issued rulings addressing the proper method for computing the credit limitation in these circumstances. See P.D. 96-206 (8/21/1996).

The computation of the credit is based on the other state's nonresident return taken as a whole, which includes the filing status, exemptions, and deductions claimed. If a spouse files a separate nonresident income tax return with another state, based only on the income, deductions, personal exemptions and exclusions of the spouse having income from sources in that state, the credit for income tax paid to another state computed on the Virginia resident return must be computed on the same basis. The credit calculation on the Virginia return must be adjusted to remove the husband's income, exemptions and deductions from the credit computation.

The Taxpayers were also jointly subject to income tax as nonresidents by one state. Calculation of the credit for tax paid has been revised pursuant to P.D. 95-96. Further, each state's credit must be computed separately.

The Taxpayers' 2004 taxable year income tax return has been adjusted in accordance with this determination. As a result, the assessment has been abated. A refund will be issued shortly, based on the adjusted credit for taxes paid other states, as shown on the enclosed schedule.

The Code of Virginia sections, regulation and public documents cited are available on-line at www.tax.virginia.gov in the Tax Policy Library section of the Department's web site. If you have any questions regarding this determination, you may contact * in the Department's Office of Policy and Administration, Appeals and Rulings, at ***.

Sincerely,

Janie E. Bowen

Tax Commissioner

AR/1-307595947E