Capital gains tax ruled constitutional by WA Supreme Court

The Washington State Supreme Court released its ruling Friday upholding the constitutionality of the state’s capital gains tax.

The law creating the capital gains tax, SB 5096, was signed last year by Gov. Jay Inslee and went into effect in January 2022, before it was stopped by a lawsuit. The legislation created a 7% tax on the sale or exchange of capital assets above $250,000.

Capital gains tax gets the go ahead as state Supreme Court considers case

Opponents quickly filed court cases to try and fight the constitutionality of the tax, arguing that it was a tax on income and a violation of the states constitution that requires all taxes be “uniform upon the same class of property.” A Douglas County Superior Court judge ruled in opposition, saying that since the tax was not applied to gains below $250,000 it was not being applied uniformly.

“It violates the uniformity requirement by imposing a 7% tax on an individual’s long-term capital gains exceeding $250,000 but imposing zero tax on capital gains below that $250,000 threshold,” Douglas County Superior Court Judge Brian Huber’s ruling reads.

The case then went up to the state Supreme Court, where supporters argue that it should be defined as an excise tax — as opposed to an income tax — the crux of the legal challenge, largely contingent on the argument that capital assets should be considered income.

University of Washington constitutional law professor Hugh Spitzer argued that the tax on the act of selling is closer to a tax on an activity or sale rather than an annual tax on property or income.

“Under Washington law, an excise tax is a tax on an activity, on an event; property tax is a tax on standing property,” he described.

Essentially, an annual tax on property owned by someone in Washington falls under the “income tax” umbrella. But when that property is sold, the money from that sale is levied as an excise tax based on a separate decades-old state Supreme Court ruling.

“That’s how the capital gains tax was structured from a state perspective,” Spitzer added. “It’s a tax on the activity of selling certain kinds of capital assets measured by the amount of the gain — it’s a very technical issue, but I think that the state Supreme Court is going to understand this issue and will make this ruling under Washington law.”

Late last year, the Supreme Court seemed to agree with the argument giving the Department of Revenue the ability to collect on the new capital gains tax ahead of the court’s final ruling.

Washington state Attorney General Bob Ferguson recently requested that the DOR be allowed to collect the tax ahead of the official ruling. Ferguson said that “our state’s elected leaders adopted a capital gains excise tax to fund education, the State’s paramount duty, and to help rebalance our tax code, the nation’s most regressive” in his motion filed with the court.

“Because the capital gains tax is an excise tax under Washington law, it is not subject to the uniformity and levy requirements of article VII. We further hold the capital gains tax is consistent with our state constitution’s privileges and immunities clause and the federal dormant commerce clause,” the court’s ruling said. “We, therefore, reject the Plaintiffs’ facial challenge to the capital gains tax and remand to the trial court for further proceedings consistent with this opinion.”

The court ruled 7-2 to uphold the tax.