My spouse claimed employee business expenses on Form 2106 and I claimed business expenses on Schedule C for my home health care business, but the Department disallowed both for lack of documentation -- do I get another chance to prove them?

Plain-English summary

This ruling pairs two different deduction disputes for the same married couple -- one an employee expense claim, the other a self-employment business expense claim -- and shows both fail for the same underlying reason: no documentation, plus (for one of them) an independent legal bar.

For 2019, the wife claimed employee business expenses on federal Form 2106. As the Department has explained in other rulings, the 2017 Tax Cuts and Jobs Act (§ 11045 of P.L. 115-97, IRC § 67(g)) suspended the miscellaneous itemized deduction for unreimbursed employee business expenses for the 2018 through 2025 taxable years, leaving only three narrow categories of workers -- Armed Forces reservists, qualified performing artists, and fee-based state or local officials -- eligible to use Form 2106 at all. The couple's own response to the auditor confirmed the wife wasn't a member of any of those three groups. Regardless of that legal bar, they also never provided any documentation to support the claimed expenses.

For 2020, the husband claimed ordinary and necessary business expenses for his home health care business on federal Schedule C. Business expenses are deductible under IRC § 162 when they're directly connected to the taxpayer's trade or business, and since Schedule C income and expenses flow through to federal adjusted gross income (which Virginia starts from), a disallowed Schedule C deduction affects the Virginia return too. Here, the Department requested documentation to substantiate the claimed expenses; none was received, so the deduction was disallowed, and the couple provided nothing further with their appeal either.

Virginia generally defers to a federal return's numbers, but Va. Code § 58.1-219 gives the Department authority to adjust FAGI and deductions whenever there's clear evidence the reported amounts aren't consistent with the Internal Revenue Code -- and the Department can require production of the underlying federal return and supporting schedules under Va. Code § 58.1-310. Since Virginia assessments are presumed correct (Va. Code § 58.1-205) and the taxpayer bears the burden of proving otherwise, and Virginia law bars relief where an erroneous assessment stems from the taxpayer's own willful failure to provide required information (Va. Code § 58.1-1826), both disallowances were upheld as issued. Even so, the Department extended one final opportunity: the couple has 30 days to submit documentation supporting either deduction before the assessments become final and uncorrectable.

What this means for you

Anyone claiming Form 2106 employee business expenses for 2018-2025

Confirm you're actually in one of the three eligible categories (Armed Forces reservist, qualified performing artist, or fee-based state/local official) before claiming the deduction at all -- the Tax Cuts and Jobs Act eliminated it for everyone else. And regardless of eligibility, keep documentation to back up the claimed amounts.

Anyone claiming Schedule C business expenses on a Virginia return

Because Schedule C income and expenses flow into federal adjusted gross income, which Virginia's tax starts from, undocumented Schedule C expenses can be disallowed for Virginia purposes the same way they'd be disallowed federally. Keep records showing the expenses are ordinary, necessary, and connected to your actual trade or business.

Taxpayers under audit who receive a documentation request and don't respond

Silence during the audit doesn't end your options, but it does shift the burden squarely onto you. Here, the Department extended one final 30-day window to submit proof before the assessment became permanent -- take advantage of any such window rather than assuming the case is already lost.

Common questions

Q: My Form 2106 deduction was disallowed for lack of documentation, but I also don't qualify under the post-2018 rules -- does providing documentation now fix things?
A: Not on its own. If you're not an Armed Forces reservist, qualified performing artist, or fee-based state/local official, the deduction isn't available to you at all for 2018-2025 regardless of documentation.

Q: Can the Department disallow my Schedule C business expenses on my Virginia return even though they were reported on a federal form?
A: Yes -- Virginia generally relies on federal return figures but retains authority (Va. Code § 58.1-219) to adjust them where there's clear evidence they're not properly substantiated or consistent with the Internal Revenue Code, and can require you to produce the underlying federal schedules.

Q: I didn't respond to the Department's documentation request during the audit -- is my case over?
A: Not necessarily. As here, the Department may grant one final window (often 30 days) to submit documentation before the assessment becomes final -- but you need to actually use that window, since continued silence will result in the assessment standing as issued.

Citations and references

• Va. Code § 58.1-301 (Virginia conforms to IRC terminology/references unless a different meaning is clearly required)
• Va. Code § 58.1-219 (Department authority to adjust FAGI and itemized deductions inconsistent with the Internal Revenue Code)
• § 11045 of P.L. 115-97 (Tax Cuts and Jobs Act; suspends miscellaneous itemized deductions, including Form 2106 employee business expenses, for 2018-2025)
• IRC § 67(g) (codifies the suspension of miscellaneous itemized deductions)
• IRC § 162 (deduction for ordinary and necessary business expenses connected to a trade or business)
• Treas. Reg. § 1.6001-1(a) (taxpayers must maintain records sufficient to determine correct tax liability)
• Va. Code § 58.1-310 (Department may require production of federal returns and supporting schedules for audit purposes)
• Va. Code § 58.1-205 (Department assessments are prima facie correct; burden of proof is on the taxpayer)
• Va. Code § 58.1-1826 (no judicial relief where an erroneous assessment stems from the taxpayer's willful failure to provide required information)

Subject

Administration : Records - Supporting Documents Deduction : Itemized - Employee Business Expense, Expense Reportable on Schedule C

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 22-61

Original ruling text

Re: § 58.1-1821 Application: Individual Income Tax

Dear *:

This will reply to your letter in which you seek correction of the individual income tax assessments issued to * (the “Taxpayers”) for the taxable years ended December 31, 2019, and 2020.

FACTS

The Taxpayers, a husband and wife, filed joint resident Virginia income tax returns for the 2019 and 2020 taxable years. The wife claimed employee business expenses on federal Form 2106 submitted with the Taxpayers’ 2019 federal income tax return. The husband claimed business expenses on a federal Schedule C submitted with their 2020 federal income tax return. Under audit, the Department disallowed the expenses claimed on the Form 2016 and on the Schedule C and issued assessments. The Taxpayers appeal, contending that the Department lacked the authority to disallow the expenses.

DETERMINATION

Virginia Code § 58.1-301 provides, with certain exceptions, that 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 with federal adjusted gross income (FAGI). Income properly 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 Chapter 3 of Title 58.1 of the Code of Virginia .

As a general rule, the Department relies on the accuracy of information and computations reflected on the federal income tax return when reviewing Virginia individual income tax returns. If the information provided on the federal return looks reasonable, there is generally no reason to look behind those computations. However, the Department retains the authority to adjust the FAGI and itemized deductions where there is clear evidence that the amounts reported on the federal or Virginia income tax return are not consistent with the IRC. See Virginia Code § 58.1-219. The Department has consistently exercised this authority in conducting its audit programs. See Public Document (P.D.) 10-126 (7/7/2010), P.D. 12-141 (8/29/2012), P.D. 14-155 (8/28/2014), P.D. 16-53 (4/11/2016), P.D. 19-104 (9/18/2019), and P.D. 21-67 (5/25/2021). In addition, the adjustments in these cases have been made independently from any actions taken by the IRS.

Form 2106 Deduction

The Taxpayers claimed an adjustment to federal gross income in 2019 for the wife’s employee business expenses reported on Form 2106. For the 2019 taxable year, an adjustment to income could be claimed on Form 2106 only by certain individuals, including Armed Forces reservists, qualified performing artists, and fee-based state or local officials. This change in the deductibility of employee business expenses came as a result of § 11045 of P.L. 115-97, commonly known as the “Tax Cuts and Jobs Act,” which generally suspended miscellaneous itemized deductions, including unreimbursed employee business expenses, for the 2018 through 2025 taxable years. See also IRC § 67(g). The Taxpayers’ response indicated that the wife was not a member of one of the classes of individuals to which the suspension did not apply and, regardless, they did not provide any documentation to support the claimed expenses.

Schedule C Expenses

Under IRC § 162, taxpayers are permitted to deduct all of the ordinary and necessary business expenses paid or incurred during the taxable year in carrying on any trade or business. Such expenses must be directly connected with or pertaining to the taxpayer’s trade or business. See Treas. Reg. § 1.162-1.

Schedule C is used to report income or loss from a business, including a sole proprietorship. Income from the business is offset by expenses. This income or loss is reported on a taxpayer’s federal income tax return and thus is reflected in FAGI reported on the Virginia return.

The husband claimed ordinary and necessary business expenses for his home health care business on the Taxpayers’ 2020 federal Schedule C. The Department requested that the Taxpayers provide documentation to substantiate the husband’s business expenses. When the documentation was not received, the deduction for the expenses was disallowed. The Taxpayers have provided no further documentation with their appeal to substantiate the claimed expenses.

CONCLUSION

In accordance with Virginia Code § 58.1-219, the Department retains the authority to verify amounts on federal forms on which a Virginia income tax liability is based. In addition, taxpayers must maintain records sufficient to allow the IRS to determine their correct tax liability. See Treas. Reg. § 1.6001-1(a). Similarly, Virginia Code § 58.1-310 provides:

Whenever in the opinion of the Department it is necessary to examine the federal income returns or any copy thereof of any individual, estate, trust, partnership or corporation in order properly to audit such returns, the Department or the commissioner of the revenue shall have the right to require such taxpayer to provide such return or a copy thereof and all statements, inventories, and schedules in support thereof.

Under the provisions of Virginia Code § 58.1-205, in any proceeding relating to the interpretation of the tax laws of Virginia, an “assessment of a tax by the Department shall be deemed prima facie correct.” As such, the burden of proof is on the Taxpayer to show that the assessment was erroneous. Further, Virginia Code § 58.1-1826 precludes a court from granting relief to taxpayers seeking correction of erroneous state tax assessments in cases in which the erroneous assessment is attributable to the taxpayer’s willful failure or refusal to provide the Department with necessary information as required by law.

I will, however, allow the Taxpayers one final opportunity to provide adequate documentation to substantiate the deductions that were disallowed. The documentation must be sent to the Virginia Department of Taxation, RAP Unit, Office of Compliance, Desk Audit, RAP, P.O. Box 5610, Richmond, Virginia 23220-0610, to the attention of the auditor, *, within 30 days of the date of this letter. Based on the documentation provided, the assessments will be adjusted as warranted. If the documentation is not received within the allotted time, the assessments will be considered to be correct.

The Code of Virginia sections and public documents cited are available on-line at www.tax.virginia.gov in the Laws, Rules & Decisions section of the Department’s web site. If you have any questions regarding this determination, you may contact * in the Office of Tax Policy, Appeals and Rulings, at . If you have any questions regarding the documentation you must provide or the audit process generally, you may contact at ***.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/3989.B

Related Documents

10-126

12-141

14-155

16-53

19-104

21-67