Could an Office of Personnel Management survivor annuity qualify for Virginia's death-benefit subtraction if the beneficiary chose a lump sum?

Subject

OPM retirement-plan survivor annuity did not qualify

Plain-English summary

Virginia denied the subtraction because the Office of Personnel Management survivor annuity came from a federal retirement plan, not an insurance-company annuity contract. That source requirement was independently fatal.

The taxpayer argued that she could have chosen a lump sum and that the 2009 instructions did not fully state the Department's policy. Virginia responded that a retirement-plan payment was outside the intended subtraction even if paid as a lump sum. The 2012 legislation clarified the existing interpretation rather than creating it for the first time.

The paid 2009 assessment was upheld.

What this means for you

• The label "annuity" does not establish eligibility; identify the legal source of the payment.
• Federal employee retirement survivor benefits were not treated as insurance-company annuity death benefits.
• A lump-sum option could not cure the wrong type of underlying plan.
• Tax-form instructions are general guidance and do not replace the governing law.

Citations and references

• Va. Code §§ 58.1-203, 58.1-301, and 58.1-322 C 32.
• IRC §§ 72 and 101.
• Public Documents 09-36, 10-63, and 13-149, discussed in the ruling.

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 13-230

Original ruling text

December 18, 2013

Re: § 58.1-1821 Application: Individual Income Tax

Dear *:

This will reply to your letter in which you seek correction of the Virginia individual income tax assessment issued to * (the "Taxpayer") for the taxable years ended December 31, 2009. I apologize for the delay in responding to your appeal.

FACTS

The Taxpayer claimed a subtraction for a death benefit annuity for the 2009 taxable year. The source of the annuity was her husband's retirement income from the federal government. Under audit, the Department disallowed the subtraction and issued an assessment for the 2009 taxable year. The Taxpayer appeals the assessment, contending that the forms and instructions issued in 2009 did not reflect the Department's policies until after the 2011 taxable year.

DETERMINATION

Virginia Code § 58.1-301 provides that the 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. For individual income tax purposes, Virginia conforms to federal law in that it starts the computation of Virginia taxable income with the federal adjusted gross income (FAGI). Income 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.

Pursuant to Va. Code § 58.1-322 C 32, a taxpayer is allowed a subtraction of "the death benefit payments from an annuity contract that is received by a beneficiary of such contract and is subject to federal income taxation." In order to qualify for the subtraction, a death benefit payment must meet three requirements. First, the source of the payment must be an annuity contract between a customer and an insurance company. Second, the annuity payment must have been awarded to the beneficiary in a lump sum. Finally, the payment must be subject to taxation at the federal level. See Public Document (P.D.) 09-36 (3/31/2009) and P. D. 10-63 (5/7/2010).

Under IRC § 101, life insurance benefit payments paid by reason of the death of the insured are exempt from federal taxation, and thus exempt from Virginia taxation. IRC § 72, however, provides that a portion of the death benefits from an annuity, including life insurance contracts, is taxable. Because death benefits were treated dissimilarly for income tax purposes, the General Assembly sought to provide relief to individuals who are unable to obtain standard life insurance. As a result, the death benefits subtraction for certain annuity contract payments was enacted in 2006. See Chapter 617, Acts of Assembly . In 2012, the General Assembly enacted legislation (Chapter 305, Acts of Assembly ) codifying the Department's interpretation of the existing statute. See P.D. 13-149 (7/31/2013).

The subtraction applies to death benefit payments subject to federal income tax. As indicated above, however, the intent of the death benefit subtraction was to equalize treatment of certain death benefit payments resulting from contracts with life insurance companies for Virginia income tax purposes. Under the Department's interpretation and subsequent clarifying legislation, the death benefit subtraction was never intended to be permitted for payments from a retirement plan.

In this case, the Taxpayer received survivor benefits from the Office of Personnel Management. As stated above, the source of the payment must be an annuity contract between a customer and an insurance company. Survivor annuity payments received by the Taxpayer were issued from a retirement plan. As such, because the annuity payment was made pursuant to a retirement plan, the Taxpayer could not have qualified for the subtraction, even if she accepted a lump-sum in lieu of periodic payments.

Interpretation of Statute

Virginia Code § 58.1-203 grants the Tax Commissioner power to issue rulings related to the interpretation and enforcement of the laws governing taxes administered by the Department. See P.D. 97-497 (12/10/1997). The Virginia Supreme Court has consistently held that the construction of a tax statute by a state official charged with its administration is entitled to great weight. See Webster v. Department of Taxation , 219 VA. 81, 84-85, 245 S.E. 2d 252, 255 (1978) and Winchester TV Cable v. State Tax Com. , 216 Va. 289, 290, 217, S.E. 2d 885, 889 (1975).

Further, by reason of their character as legislative grants, statutes relating to deductions and subtractions allowable in computing income and credits against a tax liability must be strictly construed against the taxpayer and in favor of the taxing authority. See Howell's Motor Freight, Inc., et al. v. Virginia Department of Taxation , Circuit Court of the City of Roanoke , Law No. 82-0846 (10/27/1983).

Tax Form Instructions

The Taxpayers argues that the Department did not change its income tax instructions regarding the death benefit subtraction until 2011, well after due date for the 2009 income tax return.

The Department has recently addressed this issue in P.D. 13-149 (7/31/2013). The instructions for the taxable years at issue stated that the death benefit payments subtraction is allowed to the extent that such benefits, which were received from an annuity contract, are subject to federal taxation. Tax form instructions merely paraphrase the statute and generally make no reference to the requirements for reporting amounts on a particular line of a return. The information provided in Virginia's tax return instructions is intended to provide helpful guidance to taxpayers. It is not intended to provide a detailed explanation of every provision of or nuance of Virginia's tax law.

CONCLUSION

Based on this determination, I find no basis to abate this assessment. Accordingly, the assessment is upheld. Because the Taxpayer has satisfied the assessment for the 2009 taxable year, no further action is required.

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

Sincerely,

Craig M. Burns

Tax Commissioner

AR/1-5318428963.D