Can a Virginia taxpayer use the government-employee salary subtraction for a federal retirement annuity reported on Form 1099?

Plain-English summary

A married couple claimed Virginia's subtraction for the first $15,000 of salary of certain federal and state employees, using the husband's federal retirement annuity. The Department denied it because the annuity was retirement income reported on Form 1099, not salary earned as an employee and reported as wages on Form W-2.

The statute applied only when total annual salary from all employment was $15,000 or less. A prior ruling involving a retired employee still receiving a specific form of wage income did not expand "employee" to former employees generally. Deductions and subtractions are legislative grants construed strictly, so the retirement annuity did not qualify.

The taxpayers' reliance arguments also failed:

• Return instructions: The instructions said the subtraction applied to salary. The Department also warned that instructions are helpful guidance, not an authoritative substitute for statutes, regulations, rulings, and court decisions.
• Tax software: Department approval tests whether software conforms to processing requirements; it does not guarantee the program's computational accuracy.
• Previous returns: Virginia relies on self-assessment and cannot review every return. A subtraction going unchallenged in another year would not prove entitlement. In this case, the Department's records also showed that the same 2016 subtraction had actually been disallowed and the assessment paid.

The Commissioner upheld the 2017 assessment.

What this means for you

Federal and state retirees

Do not treat pension or annuity payments as employee salary for this subtraction merely because the payments arise from government service. Check how the income is characterized and reported.

Taxpayers using commercial software

Review eligibility for state-specific subtractions independently. Software acceptance by the Department is not a warranty that every tax-law calculation is correct.

Preparers comparing prior-year returns

Past treatment is not precedent. Each year's return is self-assessed, and an earlier item may have escaped review or may have been adjusted separately.

Common questions

Q: Why did the Form 1099 matter?
A: It supported the conclusion that the payment was annuity income, not wages or salary earned as an employee.

Q: Can tax-form instructions override the statute?
A: No. The Department described instructions as helpful guidance rather than authoritative tax law.

Q: Does Department-approved software guarantee the calculation?
A: No. Approval concerns processing conformity, not computational accuracy.

Citations and references

• Va. Code § 58.1-322.02(16) (qualifying federal and state employee salary subtraction)
• Howell's Motor Freight, Inc. v. Virginia Department of Taxation (strict construction of deductions and subtractions)
• P.D. 09-17 (limited wage-income situation involving a retired employee)
• P.D. 13-50 (tax-software approval does not guarantee computational accuracy)

Subject

Subtractions - Government Employee Federal Annuity Income Administration -Reliance on Written Advice in Tax Form Instructions; Reliance on Tax Preparation Software; Reliance on Returns from Previous Years

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 19-3

Original ruling text

January 25, 2019

Re: § 58.1-1821 Application: 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 subtracted retirement income the husband received from a federal annuity. The Taxpayers claimed the subtraction under Virginia Code § 58.1-322.02 16, for salaries of federal and state employees under $15,000. The Department denied the subtraction and issued an assessment. The Taxpayers appeal, contending they were entitled to subtract the income because they were following the directions provided by the tax return form instructions as well as their tax preparation software. Additionally, they assert that this subtraction was taken in the prior year and was never questioned.

DETERMINATION

Federal and State Employee Subtraction

Virginia Code § 58.1-322.02 16 allows a subtraction from federal adjusted gross income 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 Department has determined that if the income is received by a taxpayer who is treated as an employee under the Internal Revenue Code (IRC) and the income is reportable as wages on Form W-2, such income qualifies as salary for purposes of the subtraction. See Public Document (P.D.) 09-17 (2/4/2009). That case concerned premiums for life insurance coverage in excess of $50,000 and was a very specific tax circumstance in which a retired employee was still considered an employee who was receiving wage income. The Department, however, expressly advised that its ruling did “not mean that the term ‘employee’ includes former employees for any other purpose.” See P.D. 09-17. In the Taxpayers’ case, the income was attributable to an annuity the husband received as a federal retirement benefit and was reported on a Form 1099.

Tax Form Instructions

The Taxpayers claim that the tax form instructions directed them to subtract any federal or state income below $15,000. The instructions, however, clearly indicated that only salary was eligible or the subtraction. Consistent with the statute, the tax return form instructions provide:

Any individual who qualifies as a federal or state employee earning $15,000 or less in annual salary from all employment can subtract up to $15,000 of the salary from that state or federal job. If both spouses on a joint return qualify, each spouse may claim the subtraction….

In any event, the Taxpayers should be aware that the information provided in Virginia’s tax return instructions is intended only 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. A taxpayer must consult Virginia’s statutes, ruling letters, regulations, court decisions, the IRC, and other sources of tax jurisprudence in order to compute his or her Virginia tax liability correctly. The guidance provided in the Department’s tax form instructions is not a substitute for these sources of Virginia’s tax law and may not be relied upon as authoritative when a taxpayer is computing his Virginia taxable income.

Tax Preparation Software

The Taxpayers contend that they were following the instructions provided by their tax preparation software when claiming the subtraction. The Department recognizes that tax preparation software is commonly used by tax professionals and individuals for tax return completion. The fact that a particular software program has been approved by the Department, however, is not meant to imply its computational accuracy. Software presented to the Department for approval is reviewed to test conformity to the Department’s processing requirements. The Department provides test case specifications, but does not guarantee computational accuracy of the software. See P.D. 13-50 (4/24/2013).

Previous Year

Finally, the Taxpayers contest the assessment on the basis that the Department allowed the subtraction in the previous taxable year. Virginia’s taxing system is largely based on the theory of self-assessment. Taxpayers are given the responsibility to compute, file, and pay their own income tax. Virginia has implemented a self-assessment system based on the federal system because it is less intrusive upon the taxpayer, and less costly to the administration of the tax.

Virginia receives approximately 3.5 million individual income tax returns per year. Only a small portion of the individual taxpayers can be audited or reviewed annually. If the Department does not disallow a subtraction in a previous year, it does not imply that the Department agreed that the taxpayer was entitled to the subtraction. In this case, however, the Department’s records show that the subtraction for the 2016 taxable year was disallowed, resulting in an assessment that was later paid by the Taxpayers.

CONCLUSION

Based on the information provided, the Department finds that the subtraction claimed for salaries of state and federal employees was properly disallowed because the annuity income subtracted was not salary earned as an employee. Accordingly, 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 section 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 ***.

Sincerely,

Craig M. Burns

Tax Commissioner

Related Documents

09-17

13-50