Could a school-system independent contractor claim Virginia's subtraction for federal and state employees earning $15,000 or less?

Plain-English summary

A husband performed work for a local school system, received Form 1099 nonemployee compensation, and reported a Schedule C loss. The couple also claimed Virginia's low-salary federal and state employee subtraction.

Virginia denied the subtraction because he was an independent contractor, not an employee.

Why the Schedule C loss did not change the result

Virginia did not alter federal adjusted gross income or disallow the business expenses. The audit adjustment removed only the separate state subtraction.

That subtraction covered salary of qualifying federal and state employees with total annual salary of $15,000 or less. Form 1099 nonemployee compensation from the school system did not meet the employee requirement.

What this means for you

• Working for a government body does not by itself make you an employee.
• Form W-2 versus Form 1099 treatment is highly relevant.
• Business deductions and a state salary subtraction are separate issues.
• Strictly construed tax benefits require every statutory condition.

Common questions

Q: Did Virginia erase the Schedule C expenses?

A: No. It left federal adjusted gross income and the reported expenses unchanged.

Q: Why did the government connection not qualify?

A: The husband was paid as an independent contractor, not as an employee receiving salary.

Citations and references

• Va. Code § 58.1-322.02(16) — employee salary subtraction
• Howell's Motor Freight, Inc. v. Virginia Department of Taxation, Roanoke Circuit Court, Law No. 82-0846 (1983)

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 19-17

Original ruling text

March 21, 2019

Re: § 58.1-1821 Appeal: Individual Income Tax

Dear *:

This will respond to your letter in which you seek correction of the individual income tax assessment issued to * (the “Taxpayers”) for the taxable year ended December 31, 2017.

FACTS

The Taxpayers, a husband and wife, filed a Virginia resident individual income tax return for the 2017 taxable year and claimed a subtraction for salaries of federal and state employees under $15,000. The Department denied the subtraction and issued an assessment. The Taxpayers appeal, contending the Department cannot add the income back because the husband reported a loss from this business activity on his federal income tax return.

DETERMINATION

Virginia Taxable Income

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 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 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 Virginia Code § 58.1-322 et seq.

Because the husband had associated expenses that exceeded his business income, the Taxpayers reported a loss from his work on their federal Schedule C and federal return. They assert that the Department added this income back without considering the corresponding expenses. The Department, however, did not make any adjustments to the Taxpayers’ FAGI, or the expenses reported on the Taxpayers’ federal Schedule C and federal return. The adjustment made by the Department simply disallowed a subtraction the Taxpayers claimed on their Virginia income tax return.

Federal and State Employee Subtraction

Virginia Code § 58.1-322.02 16 allows a subtraction for “[t]he first $15,000 of salary for each federal and state employee whose total annual salary from all employment for the taxable year is $15,000 or less.”

By reason of their character as legislative grants, statutes relating to deductions and subtractions allowable in computing income and credits allowed 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 Dep’t of Taxation , Circuit Court of the City of Roanoke, Law No. 82-0846 (10/27/1983).

The information provided indicates that the husband worked as an independent contractor for the local school system. In fact, the husband’s income was reported on a federal Form 1099 under the designation “Nonemployee compensation.” As such, the income did not qualify for the subtraction because the husband was not a federal or state employee.

CONCLUSION

The Department finds that the subtraction claimed by the Taxpayers for salaries of state and federal employees was properly disallowed. The Taxpayers will receive an updated bill, which will include accrued interest to date. The Taxpayers should remit the balance due within 30 days of the bill date to avoid the accrual of additional interest.

The Code of Virginia sections 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 ***.

Sincerely,

Craig M. Burns

Tax Commissioner

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