The auditor disallowed my student loan interest adjustment, my employee business expenses, and almost all my itemized deductions -- I sent copies of my tax bills and medical invoices, so why wasn't that enough?

Plain-English summary

A couple's 2018 and 2020 Virginia returns claimed several federal-form adjustments and itemized deductions: student loan interest, employee business expenses, and itemized deductions for medical expenses, real estate taxes, home mortgage interest, personal property taxes, and charitable gifts. When the Department audited them and asked for supporting documentation, the results were uneven across every category, and almost all of it ultimately failed.

For the student loan interest adjustment, the auditor asked for Form 1098-E (the standard student loan interest statement); the taxpayers never provided it, so it was disallowed both years. For the 2020 employee business expenses, the relevant federal form is now restricted to a short list of specific job categories (Armed Forces reservists, qualified performing artists, fee-based government officials, and employees with impairment-related work expenses) -- the taxpayers didn't fit any of the three main categories, and provided no documentation anyway, so that was disallowed too. For the itemized deductions, the taxpayers actually did send in real documents: property and real estate tax bills, medical service and prescription invoices, and insurance explanation-of-benefits statements. The problem was that virtually none of it proved the bills had actually been PAID -- Virginia requires proof of payment (a receipt or cancelled check, for instance), not just proof that a charge existed, and the taxpayers produced exactly one $30 receipt across everything submitted. They gave no documentation at all for the mortgage interest or charitable contribution deductions. In the end, only the 2020 real estate taxes were allowed; everything else was disallowed, and the standard deduction was applied instead because it worked out better for the taxpayers than the surviving itemized amount. Both years' assessments were upheld, with a final 30-day window offered to submit the missing proof of payment before the assessments become final.

What this means for you

Anyone claiming itemized deductions for property taxes, medical expenses, or similar bills

A copy of the bill or invoice alone isn't enough. Virginia (like the IRS) wants proof you actually PAID it -- a receipt, a cancelled check, a bank or credit card statement showing the payment clearing. Keep this proof of payment specifically, not just the original bill, for every itemized deduction you claim.

Anyone claiming a student loan interest deduction

Keep your Form 1098-E from your loan servicer for every year you claim the deduction. This ruling shows an auditor will specifically ask for it, and without it the deduction will simply be disallowed.

Anyone claiming employee business expenses on Form 2106 for a recent tax year

Since federal tax law changes limited this form to a narrow list of job categories (Armed Forces reservists, qualified performing artists, certain fee-based government officials, and employees with impairment-related work expenses), confirm you actually fall into one of those categories before claiming the deduction -- and keep documentation regardless, since the form itself won't establish your eligibility.

Anyone who submitted some documentation during an audit but still got a full disallowance

Review whether what you submitted actually proves payment, not just that a charge or bill existed. This is a common and easy-to-miss gap -- as this ruling shows, sending real, extensive paperwork doesn't help if none of it shows money actually changing hands.

Common questions

Q: Is a copy of a medical bill or tax bill enough to support an itemized deduction?
A: No, based on this ruling. You need proof of PAYMENT -- a receipt, cancelled check, or similar document showing the amount was actually paid, not just documentation that the charge existed.

Q: What document does Virginia require to support a student loan interest deduction?
A: Form 1098-E, the Student Loan Interest Statement issued by your loan servicer, is what an auditor will typically request to substantiate the deduction.

Q: Who can still claim employee business expenses on Form 2106 for 2020 and later years?
A: A narrow list of specific individuals: Armed Forces reservists, qualified performing artists, fee-based state or local government officials, and employees with impairment-related work expenses. Most other employees can no longer use this deduction.

Citations and references

• Va. Code § 58.1-301 (Virginia conforms to IRC terminology and starts VTI computation with FAGI)
• Va. Code § 58.1-219 (Department may adjust FAGI/itemized deductions inconsistent with the IRC)
• Va. Code § 58.1-322.03 1 (Virginia allows the same itemized deductions permitted for federal purposes)
• Va. Code § 58.1-310 (Department may require a taxpayer to produce federal returns and supporting schedules)
• Va. Code § 58.1-205 (an assessment is prima facie correct; burden of proof on the taxpayer)
• Treas. Reg. § 1.6001-1(a) (taxpayers must maintain records sufficient to determine correct tax liability)
• P.D. 14-155 (8/28/2014) and P.D. 19-78 (7/29/2019) (proof of payment, such as receipts or cancelled checks, is required to substantiate property tax and medical expense deductions)

Subject

Deduction : Federal - Student Loan Interest, Employee Business Expenses; Itemized - Medical, Charitable, Taxes; Administration - Audits - Taxpayer Records

Source

• Landing page: Virginia Laws, Rules & Decisions
• Ruling: P.D. 21-168

Original ruling text

December 28, 2021

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 “Taxpayers”) for the taxable years ended December 31, 2018, and 2020.

FACTS

The Taxpayers filed Virginia resident income tax returns for the 2018 and 2020 taxable years (1) reflecting adjustments to federal gross income for student loan interest and employee business expenses, and (2) claiming itemized deductions for medical expenses, real estate taxes, home mortgage interest, personal property taxes, and gifts to charity. Under audit, the Department requested documentation to support the adjustments and deductions. When insufficient documentation was provided, the Department disallowed the adjustments and all the itemized deductions except the 2020 real estate taxes. As a result, the Department applied the standard deduction and issued assessments for both taxable years. The Taxpayers appeal the assessments.

DETERMINATION

Conformity

Virginia Code § 58.1-301 provides, with certain exceptions, 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. 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 with federal adjusted gross income (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. The Department, however, 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.

Adjustments to Federal Gross Income

The Taxpayers claimed adjustments to federal gross income on Schedule 1 of their 2018 and 2020 federal Forms 1040. In both years, the Taxpayers claimed a deduction for student loan interest. The auditor requested a copy of Form 1098-E, Student Loan Interest Statement, to support the deduction. When the Taxpayers did not submit the requested document, the auditor disallowed the adjustment.

The Taxpayers also claimed an adjustment to federal gross income in 2020 for employee business expenses on Form 2106. For the 2020 taxable year, Form 2016 may only be used by certain individuals, including Armed Forces reservists, qualified performing artists, fee-based state or local officials, and employees with impairment-related work expenses. The Taxpayers response indicated that they were not members of the first three classes of individuals and regardless, they did not provide any documentation to support the claimed expenses. Accordingly, the auditor disallowed the adjustment.

Itemized Deductions

Virginia Code § 58.1-322.03 1 allows an individual to deduct from their Virginia adjusted gross income certain amounts allowed for itemized deductions for federal income tax purposes. These deductions include those for real estate taxes, home mortgage interest, personal property taxes, medical expenses and charitable contributions provided they are claimed in accordance with the IRC and its related regulations.

The auditor requested that the Taxpayers provide documentation supporting the itemized deductions claimed on their 2018 and 2020 returns. The requests clearly indicated the documentation required to substantiate each type of deduction. The Taxpayers sent copies of personal property and real estate tax bills, invoices for medical services and prescriptions, and explanation of benefit statements issued by their insurance company. The requested proof of payment was not provided for any of the deductions claimed with the exception of one $30 receipt. Substantiating payment of property taxes and medical expenses through items such as a receipts or cancelled checks is required to claim the deductions. See Public Document (P.D.) 14-155 (8/28/2014) and P.D. 19-78 (7/29/2019). The Taxpayers provided no documentation at all to support either the home mortgage interest or charitable contribution deductions.

The auditor allowed the deduction of the real estate taxes in 2020, but otherwise disallowed the itemized deductions claimed each year because the Taxpayers provided insufficient documentation. The standard deduction was allowed each year as it benefitted the Taxpayers more than the allowable itemized deductions. The Taxpayers provided no additional information regarding the itemized deductions with their appeal and made no arguments regarding how the Department erred in disallowing the deductions.

CONCLUSION

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 properly to 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.

Under the provisions of Virginia Code § 58.1-205, 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 that the assessment was erroneous.

Sufficient documentation has not been provided by the Taxpayers to support the adjustments to income or itemized deductions claimed on the 2018 and 2020 returns. Based on the applicable law cited above and the information presented, there is no basis to abate the Department’s assessments for the 2018 and 2020 taxable years.

I will, however, give the Taxpayers one last opportunity to provide adequate documentation. The documentation should be submitted within 30 days from the date of this letter to: Virginia Department of Taxation, Office of Compliance, Desk Audit, RAP, P.O. Box 5610, Richmond, Virginia 23220-0610, Attention: *, Tax Auditor. Upon receipt, the documentation will be reviewed and the assessment may be adjusted, as appropriate. If the documentation is not received within the allotted time, the assessment will be considered correct.

The Code of Virginia sections, regulations, 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

AR/3941.X

Related Documents

14-155

19-78