Could a Virginia resident avoid a 2007 assessment by refusing to report an IRS audit increase and claiming he had no federally taxable activity?

Plain-English summary

Virginia upheld additional tax and interest after the taxpayer failed to report an IRS audit increase. Virginia residents generally begin with federal adjusted gross income and must report a final federal change by filing an amended Virginia return within one year.

The taxpayer did not file the required amended return. Virginia law therefore allowed the Department to assess the related tax at any time, using information lawfully received from the IRS.

The taxpayer claimed that the IRS information was wrong and that he had not participated in a federally taxable activity, but supplied no objective evidence supporting either assertion. Because the assessment was presumed correct, the unsupported claims did not justify abatement.

The ruling also warned that refusing to file solely on the claim that income is not taxable can be treated as intentional evasion and can support a 100% fraud penalty. The assessment and accrued interest remained due.

Common questions

Q: How long did the taxpayer have to report the federal adjustment?
A: One year after the final federal change or correction.

Q: Did the taxpayer prove the IRS adjustment was incorrect?
A: No. The ruling says he supplied no objective evidence.

Citations and references

• Va. Code §§ 58.1-205, 58.1-301, 58.1-308, 58.1-311, and 58.1-312(A)(3).
• Va. Code §§ 58.1-320 through 58.1-322 and 58.1-341.
• IRC § 6103(d).
• Colonial Pipeline Co. v. Commonwealth, 206 Va. 517, 145 S.E.2d 227 (1965).
• New York ex rel. Cohn v. Graves, 300 U.S. 308 (1937).

Subject

Individual fails to file income tax returns

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 12-117

Original ruling text

July 20, 2012

Re: § 58.1-1821 Application: Individual Income Tax

Dear *:

This will reply to your letter in which you seek correction of individual income tax assessment issued to * (the "Taxpayer") for the taxable year ended December 31, 2007.

FACTS

The Taxpayer was audited by the Internal Revenue Service (IRS) for the 2007 taxable year. As a result of the audit, the Taxpayer's federal adjusted gross income (FAGI) was increased. The Taxpayer failed to file an amended Virginia income tax return reflecting the IRS adjustment. The IRS notified the Department of the changes in the Taxpayer's FAGI, and the Department issued an assessment for additional tax and interest. The Taxpayer appeals the assessment, contending the information provided by the IRS is incorrect and that he did not participate in a federally taxable activity.

DETERMINATION

Virginia Code § 58.1-320 imposes a tax "on the Virginia taxable income for each taxable year of every individual . . . ." (Emphasis added). The Virginia Supreme Court has held "the power of the State of Virginia to levy taxes is not derived from the Constitution of the United States as interpreted by the Supreme Court. On the contrary, the State has the inherent and unlimited power of taxation unless restrained by its Constitution or the Constitution of the United States." See Colonial Pipeline Company v. Commonwealth of Virginia , 206 Va. 517, 145 S.E.2d 227 (1965). Thus, the fact that Virginia uses the Internal Revenue Code (IRC) to determine Virginia taxable income does not in any way inhibit the Commonwealth's authority to impose an income tax on its citizens.

Further, it has been well-established that a state may tax all the income of its residents, even income earned outside the taxing jurisdiction. In New York ex rel. Cohn v. Graves , 300 U.S. 308, 57 S.Ct. 466 (1937), the United States Supreme Court explained "[t]hat the receipt of income by a resident of the territory of a taxing sovereignty is a taxable event is universally recognized." Thus, any individual who has Virginia taxable income as determined under Virginia's statutes is subject to Virginia income tax.

Virginia Code § 58.1-301 provides that terminology and references used in Title 58.1 of the Code of Virginia will have the same meaning as provided in the IRC unless a different meaning is clearly required. For individual income tax purposes, Virginia "conforms" to federal law, in that it starts the computation of Virginia taxable income with 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 Va. Code § 58.1-322.

Virginia Code § 58.1-341 provides that a Virginia resident who is required to file a federal income tax return is also required to file a Virginia income tax return, unless the resident is exempt from filing under Va. Code § 58.1-321. Additionally, even if a resident is not required to file a federal return but has Virginia adjusted gross income that exceeds the filing threshold, the resident is required to file a Virginia individual income tax return. When a resident does not file a proper Virginia return, IRC § 6103(d) authorizes the Department to obtain information from the IRS that will enable the Department to determine a resident's tax liability.

Virginia Code § 58.1-311 requires any individual to report a change or correction in federal taxable income within one year of the final determination of such change or correction by filing an amended return with the Department. If the taxpayer fails to file an amended return, Va. Code § 58.1-312 A 3 authorizes the Department to assess the appropriate tax at any time.

In this case, the Taxpayer failed to file an amended Virginia individual income tax return as required by Va. Code § 58.1-311. Therefore, the Department issued an assessment as authorized under Va. Code § 58.1-312.

Virginia Code § 58.1-205 provides that 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 he was not subject to income tax in Virginia. In this case, the Taxpayer has provided no objective evidence to show that the information properly obtained by the Department from the IRS is incorrect.

Further, the claim that the Taxpayer's income is not subject to Virginia taxation has no basis in fact or Virginia law. An individual who fails to file income tax returns based solely on such a claim has intentionally understated his or her income tax liability with the intent to evade tax and is subject to a 100% fraud penalty pursuant to Va. Code § 58.1-308.

Based on the applicable law cited above and the information presented, there is no basis to abate the Department's assessment for the 2007 taxable year. Accordingly, the assessment for the 2007 taxable year is correct and remains due and payable. An updated assessment will be issued shortly, which will include accrued interest. Payment of the assessment should be made within 30 days of the bill date in order to avoid the accrual of additional interest.

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

Sincerely,

Craig M. Burns

Tax Commissioner

AR/1-4870201714.E