Washington Policy Center: Make no mistake: A tax on capital gains is an income tax

By Jason Mercier

At 9 a.m. Thursday, the state Supreme Court will hear oral arguments concerning the recently imposed capital gains income tax.

In no uncertain terms, a capital gains tax is an income tax and not an “excise tax” as claimed by income proponents.

How do we know?

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.

For example, the IRS says: “You ask whether tax on capital gains is considered an excise tax or an income tax? It is an income tax.”

Forty-nine states agree with the IRS. The California Franchise Tax Board says: “California taxes capital gains as an income tax and they are taxed at the same rate as ordinary income.”

Other countries also agree with the IRS. The Australian Taxation Office says: “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.”

Washington state government officials, however, stand alone claiming a capital gains tax is an “excise tax.”

In fact, the attorney general’s office is so concerned about these facts, its brief to the state Supreme Court warned justices: “The Court, however, need not follow WPC down their ‘other jurisdictions’ rabbit hole.”

Give the attorney general credit for consistently trying to stop the courts from considering these capital gains income tax facts. During the hearing at trial court, the AG filed a motion to strike from the court record the indisputable facts we provided that every tax jurisdiction in the world calls a capital gains tax an income tax, a fact even the AG now acknowledges as you will see.

In the trial court ruling declaring the capital gains income tax unconstitutional, however, the Inslee-appointed judge said: “In Paragraph 5 Mr. Mercier testifies that while some states responded that they did not tax capital gains at all, no state that was surveyed taxed capital gains through an excise or in any way other than through an income tax. This Court deems Paragraph 5 to be admissible expert testimony under ER 702 …”

Curiously, later in the AG’s recent brief responding to the amicus opposing the capital gains income tax, he takes the court down the very “ ‘other jurisdictions’ rabbit hole” he told them to avoid (emphasis added): “They also decry the fact that Washington imposes a stand-alone excise tax on the sale of long-term capital gains, while most states and the federal government tax these gains as part of their broad-based income tax systems.”

It is good to see the state finally acknowledge that every other state and the federal government taxes capital gains as an income tax.

This case is about one thing, allowing a graduated income tax in the state of Washington without a constitutional amendment. We know this from lawmakers’ own public records.

As for the claim this income tax on capital gains will only be on the wealthy, a bill has already been proposed this session (SB 5335) to increase the rate AND repeal the $250,000 exemption. Should the court allow this income tax to move forward, taxpayers can expect the same thing to happen that occurs with all taxes over time, the rates to increase and the base to expand.

No matter what the court rules, this fact – it is an income tax – will remain. For example, a retired IRS tax expert recently reached out to me and said he was “dumbfounded” by the state’s arguments that a capital gains tax is an “excise tax” and said it is clearly an income tax.

The state Supreme Court was very clear in 1960 that if the Legislature wants a graduated income tax, it must get a constitutional amendment passed. The justices today should simply issue that same ruling and ignore pleas to impose an income tax by judicial fiat since the voters keep rejecting income tax constitutional amendments.

Jason Mercier is the Washington Policy Center’s director for the Center for Government Reform. Mercier is based in the Tri-Cities.