Washington Capital Gains Tax
Tax & AccountingJune 10, 2021

Washington’s New Tax on Capital Gains

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Washington’s New Tax on Capital Gains

Earlier this year, the state of Washington enacted a capital gains tax.

The tax, which is set to begin January 1, 2022, applies only to individuals and is limited to gains allocated to Washington. It will be imposed at the rate of 7% on long-term capital gains over $250,000 from sales of stocks, bonds, and certain other capital assets.

The Washington Department of Revenue noted that the first payments of the capital gains tax will be due April 17, 2023.

However, the tax faces some significant legal hurdles.

Income Taxes in Washington

Although it is well known that Washington does not have an income tax, it should be noted that there have been a number of attempts over the years to impose an income tax in the state. Those attempts have failed.

Some of the attempts were defeated by voters, and in other cases the taxes were invalidated by courts.

Under Article VII of the state constitution, all taxes on the same class of property must be uniformly applied. In striking down various income tax proposals, the Washington Supreme Court has held that income is property, therefore triggering the constitutional uniformity requirement.

Considering that background, it is not surprising that the new law avoids the term “income tax” and characterizes the Washington capital gains tax as an excise tax on sales or exchanges of certain assets.

Legal Challenges Already Filed

Lawsuits challenging the new tax have already been initiated, including one action filed on behalf of a group seeking declaratory and injunctive relief. That lawsuit makes a number of arguments, for example asserting that:

  • capital gains are income, and neither the federal government nor any other state levies an excise tax on capital gains;
  • unlike other excise taxes, the new tax does not relate to particular transactions or any privilege to conduct business; and
  • calling the tax an excise tax cannot avoid the fundamental fact that the law imposes a tax on personal income.

Exemptions and Deductions

Assuming that the tax does go into effect, the law includes exemptions for:

  • real estate;
  • certain interests in a privately held entity to the extent any long-term capital gain or loss is directly attributable to the real estate owned directly by the entity;
  • retirement accounts;
  • assets transferred as part of a condemnation proceeding;
  • livestock related to farming or ranching;
  • certain property used in a trade or business to the extent it is depreciable under IRC Sec. 167(a)(1) or qualifies for expensing under IRC Sec. 179;
  • timber and timberlands;
  • commercial fishing privileges; and
  • goodwill received from the sale of a franchised auto dealership.

The law provides a deduction for the sale of substantially all of a qualified family-owned small business.

A deduction is also allowed (capped at $100,000) for the amount of charitable donations made by the taxpayer to qualified organizations in excess of $250,000.

Sourcing of Gains to Washington

Generally, long-term capital gains or losses from the sale or exchange of tangible personal property are allocated to Washington if the property was located in the state at the time of the sale or exchange. Long-term capital gains or losses derived from intangible personal property are allocated to Washington if the taxpayer was domiciled in the state when the sale or exchange occurred.

By Brian Plunkett, J.D.

 

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