How to Reduce Virginia Income Tax
Taxes are an inevitable part of American citizenship and the Virginia income tax is no different.
The system is two-tiered: federal and state. Taxes at the federal level have the same stipulations across all 50 states. Furthermore, each state makes its own rules on the amount of money their residents pay for state income taxes.
Get your Retirement Checklist of over 30 things that you need to think about for your retirement. In Virginia, income taxes pay for many things including schools, parks, recreation, public service, and other amenities. Forty-three states levy a state income tax and and some states have better tax laws than others. If you live in Virginia, you benefit from favorable income tax laws. Virginia has a progressive income tax schedule. A progressive tax is a tax that imposes a lower tax rate on low-income earners. Higher income earners pay a higher tax rate. Consequently, Virginia takes a larger percentage from high-income earners than it does from low-income individuals. This means that the more you make, the higher the percentage of state income tax you pay. Even so, you don’t have to earn much to pay Virginia’s highest tax rate. Residents who earn $17,000 ore more will pay 5.75% of taxable income per year in Virginia income taxes alone. The good news is that Virginia is lower than the national average for state income taxes.
California has the highest state income taxes in the country at 13.3% of income. Oregon and Minnesota rank second and third, respectively. There are 7 states that impose zero income tax. So, how does Virginia rank for state income taxes? Let’s take a look…
As you can see, Virginia does have favorable state income tax rates. But, with a bit of planning you may be able to reduce your taxable income even further.
Here are a few easy fixes to potentially lower your tax bill in 2022 with proper tax planning.
#1: Contribute to a Virginia 529 Savings Plan
A 529 plan is a savings plan that helps families save for qualified higher education expenses. In a 529 account, your money can grow free from federal taxes and be tax deductible in some situations. Virginia taxpayers enjoy the additional benefit of a state income tax deduction on contributions to their Virginia529 accounts. Through December 31st, 2021, families could deduct up to $4,000 per year per account for 529 plan contributions.
New for 2022, deductions are now limited to the lesser of $4,000 or or the amount contributed during the taxable year to each Virginia 529 account.
If you are under age 70 on or before Dec. 31 of the taxable year, enter the lesser of $4,000 or the amount contributed during the taxable year to each Virginia529 account (Virginia 529 prePAID, Virginia 529 inVEST, College America, CollegeWealth). If you contributed more than $4,000 per account during the taxable year, you may carry forward any undeducted amounts until the contribution has been fully deducted. However, if you are age 70 or older on or before Dec. 31 of the taxable year, you may deduct the entire amount contributed during the taxable year. Only the owner of record for an account may claim a deduction for contributions made. Most people did not know that it was possible to deduct up to 100% of annual Virginia 529 plan contributions. This little known tax benefit was based on a ruling from the Virginia tax commissioner. Many Virginia tax payers believed that deductions were limited to $4,000 per child which was not the case.
If you were smart and well informed, you could have potentially deducted much more than $4,000. In the past, in order to be able to deduct more than $4,000 of your contributions, you must have established more than one account. Moreover, each account must have differed in one of the following ways. It must have had:
a different owner, or
a different portfolio allocation
Here is an example from the tax commissioner’s ruling:
Even with this loophole now closed, Virginia 529 account owners who are Virginia taxpayers can really multiply their 529 plan deductions. There is also an unlimited carry forward to future tax years, subject to certain restrictions. Are you over 70 years old? If so, you may deduct the entire amount contributed to a Virginia 529 account in one year! Doing so can provide a legacy for your grandchildren, reduce your Virginia income tax, and help you avoid estate taxes. A 529 account can be set up for anyone, including yourself. Moreover, you can change the beneficiary to another family member without penalty at any time. Proper financial planning can help you determine the best course of action for you.
#2: Deduct Private School Tuition via a 529 Plan
Does your child or grandchild go to private school in Virginia? In 2022, you can use up to $10,000 per year in 529 funds toward a beneficiary’s private or religious K-12 school tuition. Remember, 529 plan deductions can be Virginia state tax deductible.
Example 1: Julie’s grandson, John, goes to private school with a tuition cost of $12,000 per year. Julie wants to be able to deduct part of the tuition to reduce her state income tax in Virginia. Julie opens up a Virginia 529 plan accounts with her son John as the beneficiary. She funds the account with $12,000. Julie can deduct $4,000 on her Virginia tax return and carry forward $8,000 in deductions to future years. Julie then makes a distribution from the 529 plans directly to John’s K-12 school for $10,000. She pays the remaining $2,000 out of pocket. By doing so, Julie reduces her Virginia taxable income by being able to deduct $4,000 on her Virginia tax return in 2022, $4,000 in 2023, and an additional $4,000 in 2024.
#3: Purchase Land Preservation Tax Credits to Reduce Virginia Income Tax
Land preservation tax credits were created to incentivize Virginian’s to preserve raw land. They are a great strategy to help reduce income taxes in Virginia. Here is how it works. The Commonwealth of Virginia allows you or your business to purchase land preservation tax credits (LPCs) from Virginia landowners. These landowners have made charitable donations of land or easements for conservation purposes. Typically, landowners make a donation and receive up to a 40% income tax credit for the donation. However, sometimes donors don’t want to use all of their tax credits. As a result, they can sell their credits to Virginia residents who want to purchase the credits at a reduced price. Purchasing credits can provide Virginia tax payers with significant tax savings. It also encourages conservation of Virginia farms and other open spaces. Because of the ease of transfer and the attractive discounts, LPCs have become very popular with Virginia taxpayers. To be eligible for tax credits, the easement must qualify as a charitable deduction under the IRS Code and meet additional requirements under the Virginia Land Conservation Incentives Act.
Example: Land Preservation Tax Credit Transaction
Al and Anne are a married couple and Virginia taxpayer. They expect to have at least $20,000 of Virginia income tax obligation when they file their 2022 Virginia income tax return in May 2023. Al and Anne don’t like paying more than their fair share of taxes.
As a result, they would like to offset $20,000 of Virginia income tax with a purchased tax credit. They purchases their credit in October 2022 at a discounted price of 90 cents on the dollar. The discount varies depending on market conditions but typically ranges between 89 cents to 91 cents on the dollar.
In this example, they purchase $20,000 in credits for $18,000.
Credit purchased………………………………….$20,000 Credit purchase price……………………………..$18,000
Tax Savings…………………………………………………. $2,000 Al and Anne report their $20,000 credit on their Virginia income tax return in April 2023. As Virginia taxpayers, they realize a savings of $2,000 or 10% of their Virginia tax obligation! You may learn more about Virginia land preservation tax credits here.
#4: Know Your Virginia Income Tax Exemptions
Similar to federal deductions, Virginia gives its residence a chance to exempt costs from their yearly tax return. As of 2022, exemptions include:
Yourself Both you and your spouse can take a personal exemption of up to $930. Many couples filing jointly choose to file under the Spouse Tax Adjustment (read more in point 3) in which case each person must exempt themselves.
Dependents Your income tax bill can be adjusted up to $930 for dependents. Note, the number of dependents you claim should be the same as the number listed on your federal tax return.
Age If you are 65 or older, you can claim up to $800 on your income taxes. If filing jointly, each person must file their own age exemption.
Virginia allows you to exempt $800 for a blindness disability. Again, if filing jointly, each partner must claim their own exemption.
Knowing where you are at with your exemptions will help decrease your income tax bill. Exclusions and exceptions do apply for people who only had Virginia residency for part of the year. More information on that can be found here.
5. Spouse Tax Adjustment
Virginia income tax is set up to increase with the amount of income brought in. This can prove difficult for married couples filing jointly, as their combined income would be higher than the income they make separately.
In order to combat this problem and keep people filing jointly from paying much more in income taxes, Virginia has established a Spouse Tax Adjustment (STA). By using this form, married couples who each received income in the taxable year are eligible to save over $250 on their income tax bill. The goal of STA is to ensure that a couple filing jointly would not pay more in taxes than the combined total cost of separate filing. If you want to do some calculations to see just how much you would save, use this tool.
6. Lease Your Next Car to Reduce Personal Property Tax
While not part of Virginia income taxes per se, Virginia residents pay the most in personal property tax than any other state in America! This is due to the fact that residents are taxed simply for owning a car. According to the Washington Post, the average Virginia resident pays about $960 in personal property taxes for owning their vehicle. This is a large tax that can significantly impact your bill this year. Here are some ways to avoid such a steep price tag. Lease your next car. There are taxes and fees but since you do not own the car, you won’t be responsible for the personal property tax. Downsize. See if you are able to reduce the amount of vehicles your family owns. Each state has its own idiosyncrasies when it comes to tax law. In the case of Virginia, there are many ways to reduce your payment on income taxes this year with exemptions, credits, and deductions. If you would like to talk about your personal situation and how to reduce your Virginia income taxes, give us a call!
Mark Fonville, CFP®
Mark has over 20 years of experience helping individuals and families invest and plan for retirement. He is a CERTIFIED FINANCIAL PLANNER™ and President of Covenant Wealth Advisors.
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