Virginia State Income Tax
What kind of tax will you owe on Virginia business income?
Most states tax at least some types of business income derived from the state. As a rule, the details of how income from a specific business is taxed depend in part on the business’s legal form; more particularly, in most states corporations are subject to a corporate income tax, while income from “pass-through entities” such as S corporations, limited liability companies (LLCs), partnerships, and sole proprietorships is subject to a state’s tax on personal income. Tax rates for both corporate income and personal income vary widely among states; corporate rates, which more often are flat regardless of the amount of income, generally range from 4% to 9%, and personal rates, which generally vary depending on the amount of income, can range from 0% (for small amounts of taxable income) to around 9% or more in some states.
Currently, four states, Nevada, South Dakota, Washington, and Wyoming, do not have a corporate income tax, and the same four states, along with Alaska, Florida, and Texas, have no personal income tax. Individuals in New Hampshire and Tennessee are only taxed on interest and dividend income.
Apart from taxing business income through a corporate income tax or a personal income tax, many states impose a separate tax on at least some businesses, sometimes called a “franchise tax” or “privilege tax;” this is frequently defined as a tax simply for the right or “privilege” of doing business in the state. As with state taxes on business income, the specifics of a state’s franchise tax often depend in part on the legal form of the business. Franchise taxes are generally either a flat fee or an amount based on a business’s net worth.
Virginia has a corporation income tax, but no franchise or privilege tax applicable to businesses generally. Thus, for the most part, unless your business is a traditional (C-type) corporation, the business itself will not be subject to a state tax on income or net worth. However, if income from your business passes through to you personally, that income will be subject to taxation on your personal state tax return.
Virginia’s corporation income tax is assessed at a flat rate of 6% on net income. (Certain corporations not likely to be small businesses, such as telecommunications companies and electric suppliers, may be subject to different tax rates.) Returns are due on the 15th day of the fourth month after the end of the corporation’s tax year; for a corporation whose tax year is the same as the calendar year, this means returns are due by April 15th. For purposes of comparison, note that Virginia taxes personal income at a series of marginal rates ranging from 2% to 5.75%.
Note: Pass-through entities, including S corporations, LLCs, general partnerships, limited partnerships (LPs), and limited liability partnerships (LLPs), that do business in, or receive income from, Virginia must file a tax return (Form 502) for information purposes even though no tax may be due.
Let’s briefly look at additional details for five of the most common forms of Virginia business: corporations (i.e., C corporations), S corporations, LLCs, partnerships, and sole proprietorships.
Corporations. Virginia corporations are subject to Virginia’s 6% corporation income tax.
Example: For the 2012 tax year, your Virginia corporation had net income of $500,000. Other things being equal, the corporation will owe Virginia franchise tax in the amount of $35,000 (6% of $500,000).
S Corporations. An S corporation is created by first forming a traditional corporation, and then filing a special form with the IRS to elect “S” status; unlike a traditional corporation, an S corporation generally is not subject to separate federal income tax. Rather, taxable income from an S corporation is passed through to the individual shareholders, and each individual shareholder is subject to federal tax on his or her share of the corporation’s income; in other words, S corporations are “pass-through” entities. (Note that a shareholder’s share of the S corporation’s income need not actually be distributed to the shareholder in order for the shareholder to owe tax on that amount.) Virginia recognizes the federal S election, and Virginia S corporations generally are not required to pay state taxes (although a state tax return for informational purposes is required). However, an individual S corporation shareholder will owe tax on his or her share of the company’s income.
Example: For the 2012 tax year, your S corporation had net income of $500,000. The corporation will file a state tax return, Form 502, for informational purposes. The $500,000 in net income will be allocated among the various corporation shareholders and each shareholder will pay tax on his or her portion on his or her individual state tax return; rates will vary depending on a shareholder’s total taxable income for the year.
Limited Liability Companies (LLCs). Like S corporations, standard LLCs are pass-through entities and, generally speaking, are not required to pay income tax to either the federal government or the State of Virginia (although filing of a state tax return for informational purposes is required). Instead, income from the business is distributed to individual LLC members, who then pay federal and state taxes on the amount distributed to them.
Also, while by default LLCs are classified for tax purposes as partnerships (or, for single-member LLCs, “disregarded entities”), it is possible to elect to have your LLC classified as a corporation. In that case, the LLC would also be subject to Virginia’s franchise tax.
Example: For the 2012 tax year, your multi-member LLC, which has the default tax classification of partnership, had net income of $500,000. The LLC will file a state tax return, Form 502, for informational purposes. The $500,000 in net income will be allocated among the various LLC members and each member will pay tax on his or her portion on his or her individual state tax return; rates will vary depending on a member’s total taxable income for the year.
Partnerships. Partnerships are pass-through entities and, generally speaking, partnerships are not required to pay income tax to either the federal government or the State of Virginia (although filing of a state tax return for informational purposes is required). Instead, income from partnerships is distributed to the individual partners, who then pay tax on the amount distributed to them on both their federal and state tax returns.
Example: For the 2012 tax year, your partnership had net income of $500,000. The partnership will file a state tax return, Form 502, for informational purposes. The $500,000 in net income will be allocated among the various partners and each partner will pay tax on his or her portion on his or her individual state tax return; rates will vary depending on a partner’s total taxable income for the year.
Sole Proprietorships. Income from your business will be distributed to you as the sole proprietor, and you will pay tax to the state on that income.
Example: For the latest tax year, your sole proprietorship had net income of $200,000. The $200,000 in net income is distributed to you personally, and you’ll pay tax on that income on your individual state tax return; your rate will vary depending on your total taxable income for the year.
Note on Multistate Businesses and “Nexus”
Our primary focus here is on businesses operating solely in Virginia. However, if you’re doing business in several states, you should be aware that your business may be considered to have “nexus” with those states, and therefore may be obligated to pay taxes in those states. Also, if your business was formed or is located in another state, but generates income in Virginia, it may be subject to Virginia taxes. The rules for taxation of multistate businesses, including what constitutes nexus with a state for the purpose of various taxes, are complicated; if you run such a business, you should consult with a tax professional.
For further guidance on Virginia’s corporation income tax and informational returns for pass-through entities, check the Department of Taxation website. For information on business-related taxes in other states, check Nolo’s 50-State Guide to Business Income Tax. And, if you’re looking for detailed guidance on federal income tax issues, check Tax Savvy for Small Business, by Federick Daily (Nolo).