If the IRS never adjusted my return, can Virginia still deny my business expense, itemized, and alimony deductions?

Plain-English summary

The Department audited a taxpayer's 2016 and 2017 Virginia returns and disallowed various business expense and itemized deductions for both years, plus an alimony deduction for 2017. He appealed, arguing that the IRS had made no changes to his federal adjusted gross income (FAGI) or deductions, so Virginia shouldn't either.

The Department rejected that argument: the IRS leaving a return alone does not stop Virginia from adjusting deductions that aren't supported. But rather than decide the deductions outright, it gave the taxpayer 30 more days to produce records, after which the audit staff would adjust the assessments as warranted.

Why "the IRS didn't change it" is not a defense

Virginia conforms to federal definitions (Va. Code § 58.1-301) and starts from FAGI, so the Department usually relies on the federal return — if the numbers look reasonable, it doesn't look behind them. But it expressly retains authority to adjust FAGI and itemized deductions where there's clear evidence the reported amounts don't match the Internal Revenue Code (Va. Code § 58.1-219).

Crucially, the ruling states: "The fact that the IRS has not adjusted the Taxpayer's FAGI or deductions has no bearing on the Department's ability to make such adjustments." Virginia can audit and adjust independently of the IRS.

You still have to substantiate the deductions

The deductions at stake all require proof:

• Business expenses must be ordinary, necessary, and directly connected to a trade or business (IRC § 162; Treas. Reg. § 1.162-1).
• Itemized deductions flow through from the federal amount (Va. Code § 58.1-322.03), and additional above-the-line items like alimony are allowed under federal law.
• Taxpayers must keep records sufficient to determine the correct tax (Treas. Reg. § 1.6001-1(a)), and Virginia may require the federal return and all supporting schedules (Va. Code § 58.1-310).

Because the taxpayer hadn't yet supplied the supporting records, the Department couldn't allow the deductions on the appeal record.

What happens next (the 30-day / 90-day path)

Instead of a final denial, the Department set out a process:

• The taxpayer gets 30 additional days to send the requested documentation to the audit staff (Office of Compliance, Desk Audit).
• The audit staff will review it and adjust the assessments as warranted.
• If the taxpayer still disagrees after that review, he may file an appeal within 90 days of being notified of the result.

What this means for you

• Don't assume a "clean" IRS record protects your Virginia return. Virginia can and does audit deductions the IRS never questioned.
• Documentation is everything. Business, itemized, and alimony deductions all require records; without them, the Department can disallow the deduction and assess tax.
• Respond within the deadline. If you don't submit records in the 30 days given, the assessments are treated as correct and collection resumes.
• You keep appeal rights — a further 90-day appeal is available after the audit staff reviews your documentation.

Common questions

Q: The IRS accepted my federal return. Can Virginia still deny my deductions?

A: Yes. Virginia relies on the federal return as a starting point but keeps independent authority to adjust deductions that aren't consistent with federal law — regardless of whether the IRS acted.

Q: Did the Department actually decide my deductions were wrong?

A: In this ruling, no. It gave the taxpayer 30 days to substantiate the deductions; the audit staff will then adjust the assessments based on the records provided.

Q: What records do I need for business expenses?

A: Enough to show each expense was ordinary, necessary, and connected to your trade or business — invoices, receipts, and similar proof. Keep them; the burden of substantiation is on you.

Citations and references

• Va. Code § 58.1-301 — Virginia conforms to Internal Revenue Code terminology
• Va. Code § 58.1-219 — Department may adjust FAGI and deductions inconsistent with the IRC
• Va. Code § 58.1-310 — Department may require the federal return and supporting records
• Va. Code § 58.1-322.03 — Virginia itemized deduction conforms to the federal amount
• IRC § 162 and Treas. Reg. § 1.162-1 — ordinary and necessary business expenses
• Treas. Reg. § 1.6001-1(a) — recordkeeping requirement

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 19-104

Original ruling text

September 18, 2019

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 “Taxpayer”) for the taxable years ended December 31, 2016, and 2017.

FACTS

The Taxpayer filed Virginia resident income tax returns for the 2016 and 2017 taxable years. The Department audited the Taxpayer and denied various business expense and itemized deductions claimed for both years and a deduction for alimony paid for the 2017 taxable year. The Taxpayer appeals, contending the Internal Revenue Service (IRS) has made no adjustments to either his federal adjusted gross income (FAGI) or deductions for either year.

DETERMINATION

Virginia Code § 58.1-301 provides, with certain exceptions, 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. 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 (VTI) 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 Virginia Code § 58.1-322.01 through § 58.1-322.04.

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.

Virginia Code § 58.1-322.03 1 a allows a taxpayer to deduct from its Virginia adjusted gross income the amount allowed for itemized deductions for federal income tax purposes. IRC § 211 allows additional deductions for individuals, including but not limited to educator expenses, alimony, moving expenses and contributions to IRAs. Under IRC § 162, taxpayers are also 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.

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 to properly 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.

The fact that the IRS has not adjusted the Taxpayer’s FAGI or deductions has no bearing on the Department’s ability to make such adjustments to the Taxpayer’s returns and issue assessments. As stated above, the Department has the authority to make such adjustments.

The Taxpayer will be given 30 additional days to supply the records requested. The Taxpayer should send the documentation to *, Office of Compliance, Desk Audit, RAP, P.O. Box 5610, Richmond, Virginia 23220-0610. Once the documentation is received, the audit staff will review it, adjust the assessments as warranted and notify the Taxpayer of the results of the review. If the Taxpayer still disagrees with the results, he may file an appeal within 90 days of the date he is notified. If the documentation is not submitted within the time allotted, the assessments will be considered to be correct and collections actions will resume.

If you have any questions regarding this determination, you may contact * in the Office of Tax Policy, Appeals and Rulings, at . Specific questions about what documentation must be provided to the audit staff should be directed to at ***.

Sincerely,

Craig M. Burns

Tax Commissioner

AR/2062.M