Jason Mercier: No sugar coating it – Washington no longer income tax free

By Jason Mercier

If you were curious about the tax treatment of capital gains income and took a globe of the planet and randomly placed your finger after spinning it, you would hear the same thing: A capital gains tax is an income tax.

You could repeat this exercise over and over and the results would be the same unless your finger landed on Washington state. Thanks to a recent 7-2 decision by our state Supreme Court, Washington stands alone on the planet claiming a capital gains tax isn’t an income tax.

For example, consider the following responses concerning the taxation of capital gains income.

Australian Taxation Office: “You report capital gains and capital losses in your income tax return and pay tax on your capital gains. Although it is referred to as ‘capital gains tax,’ it is part of your income tax. It is not a separate tax.”

California Franchise Tax Board: “California taxes capital gains as an income tax and they are taxed at the same rate as ordinary income.”

IRS: “You ask whether tax on capital gains is considered an excise tax or an income tax? It is an income tax. More specifically, capital gains are treated as income under the tax code and taxed as such.”

Washington state Supreme Court: “We hold the capital gains tax is an excise tax under Washington law.”

As was true with Judge Dredd, a final ruling by the state Supreme Court is the law, but that doesn’t change the irrefutable fact that literally every tax professional in the world, from the IRS, to every other state, to other countries will tell you the same thing – capital gains are income and taxes on them are income taxes.

The dissenting opinion, however, clearly understood what a tax on capital gains income is – an income tax.

From the dissent, “Though not dispositive of this issue of state statutory interpretation, it is worth noting that the IRS and all 41 states that tax capital gains treat such gains as income and a tax on them as an income tax … The plain language of the statute shows that taxable incident is not the sale or transfer of the capital asset itself. Rather, the taxable incident is the realization of income derived from the sale of qualifying capital assets. Because the taxable incident or event is the realization of income – not the mere transfer of the asset – the tax is an income tax, regardless of the label placed on it by the legislature.”

The dissent was clear, factual and consistent with the treatment of capital gains income across the world, but it only received two votes.

Some of the commentary from national tax experts on Washington’s court discovering a new way to tax capital gains income have been interesting.

Here are some of the comments from a tweet thread by the Jared Walczak, vice president of state projects at the Tax Foundation: “I try to be respectful of court rulings, and recognize that state supreme court justices know much more about the law than I do, but I don’t see any way to get around it on this one: the court wanted a capital gains tax so it ruled in favor even though the argument was ludicrous.”

The Wall Street Journal wrote about the ruling: “The majority’s logic contradicts common sense, nearly a century of state law, and the view of the U.S. Internal Revenue Service, which defines capital gains as a form of income. The majority opinion boasts that ‘forty-one other states and the District of Columbia tax capital gains.’ Yes, and every one considers capital gains to be income … Washington State now has a capital-gains tax imposed by judges, and watch Democrats seek to build on the judicial ruling by trying to redefine other income taxes as excise taxes. The new tax bills start arriving in April. Enjoy.”

One company has already announced it is relocating its headquarters from Washington to Texas as a result of the ruling.

As reported by KUOW: “A wealth-management company says it’s pulling its headquarters out of Washington state in the wake of the state’s Supreme Court decision around capital gains taxes. In a seemingly sarcastic statement, Fisher Investments says: ‘In honor of the Washington State Supreme Court’s wisdom and knowledge of the law, and in recognition of whatever it may do next, Fisher Investments is immediately moving its headquarters from Washington state to Texas.’ The move is expected to be completed by June 30 … Fisher is now part of a wave of companies relocating to Texas. That state has fewer business regulations, no income taxes, and lower costs of living.

Our state Supreme Court has ruled and the issue is “settled” in Washington unless there is a federal challenge for violating the commerce clause or the voters respond with a ballot measure.

With respect to the tax expertise of our state justices, I’ll still stand with the rest of the planet in the clear understanding that excise taxes aren’t applied to income – those are called income taxes.

Jason Mercier is the government reform director for Washington Policy Center, a nonprofit research organization with offices in Tri-Cities, Spokane, and Seattle. Online at www.washingtonpolicy.org. Members of the Cowles family, owners of The Spokesman-Review, have previously hosted fundraisers for the Washington Policy Center and sit on the organization’s board.