Washington's new capital gains tax goes before state Supreme Court

The case is part of a century-old struggle to make the state's tax system more progressive.

A picture of the Temple of Justice, where the Washington Supreme Court usually meets, in Olympia.

Washington’s Supreme Court Building. (Jovelle Tamayo for Crosscut)

The Washington Supreme Court Thursday morning heard arguments in Chris Quinn v. State of Washington, which will decide whether a new tax on capital gains will survive a legal challenge. Thursday morning’s court hearing is the latest milestone in Washington’s 110-year-plus running debate over who and what gets taxed to pay for government services.

A recording of the hearing can be streamed via the government affairs channel TVW.

Progressives in Washington have been anticipating this hearing for years in the hope that the state Supreme Court will bless a capital gains tax as lawful – and perhaps even overturn a prior court precedent that has long stymied a personal income tax. Democratic lawmakers have long assailed Washington’s tax system – which doesn’t have a personal income tax – as regressive. Since state revenue depends so heavily on sales and business taxes, it means people who earn the least ultimately pay a higher share of their income in tax.

In statements released after the hearing, progressives held out hope that the justices would let the capital gains tax move forward.

“Millions of students, whether in pre-school, high school, or technical college, are depending on the $500 million per year from this tax on the ultra-rich," said Treasure Mackley, executive director of Invest in WA Now, a coalition that supports progressive taxation. "We are cautiously optimistic the Court will protect Washingtonians who need childcare and education, not the excessive profits of Washington’s mega-millionaires and billionaires.”

But progressives have been frustrated since 1933, when a conservative state Supreme Court majority threw out a voter-approved graduated income tax in what’s known as the Culliton decision, saying it violated Washington’s constitution. Under a graduated income tax, people fall into brackets in which the share of tax owed increases with their income. In the years since, multiple ballot measures and proposed constitutional amendments have asked Washington voters to approve an income tax – and voters have shot it down every time.

As befits a century-long battle over the power of the government purse, Washington’s interest groups have lined up on either side of the argument.

In briefs, labor unions, community groups and legal scholars are urging the court to uphold the capital gains tax, which they argue is both legal and necessary for a more equitable tax system. On the other side, business interests like the Association of Washington Business and the Building Industry Association of Washington are calling the tax unconstitutional and bad public policy.

Democrats in the Legislature passed the capital gains tax in 2021 and Gov. Jay Inslee signed it into law. The new law levies a 7% tax on profits from selling assets like bonds and stocks.

The tax would apply only to the portion of the profits from those sales that exceed $250,000 by an individual or married couple. For instance, if one earned $260,000 in profit from selling stocks in a given year, only $10,000 would be taxed, and the capital gains tax owed would be $700.

Capital gains taxes would not be applied to sales on real estate, retirement accounts, livestock and timber, or small businesses.

The new tax didn’t do well in its first time in court. In March, a Douglas County Superior Court judge ruled that the tax violated the state constitution. In that decision, Judge Brian Huber ruled it unconstitutional because the tax doesn’t apply to every resident uniformly, but  only to those whose profits clear that $250,000 threshold.

The state Supreme Court in the past has considered income as property – like in the Culliton decision. And Washington’s constitution declares that property must be taxed at a flat rate, Huber said.

That’s an argument that conservatives hope will resonate with the state Supreme Court.

“When this was first proposed, the Department of Revenue was blunt that this was an income tax,” said Jason Mercier, a policy director with the conservative-leaning nonprofit Washington Policy Center.

In an email after Thursday's hearing, Mercier said he was pleased about the sometimes tough questions the justices asked the state attorneys defending the law.

"The justices asked the right questions today on the capital gains income tax," Mercier wrote. "Feeling better than I did before the arguments. Now we wait to see the ruling."

Progressives and some legal scholars contend – along with state attorneys in the hearing – that capital gains are not income, and that the tax is structured as an excise tax.

Several law professors, including Hugh Spitzer of the University of Washington School of Law, submitted a brief ahead of the court hearing contending that the new law is, in fact, an excise tax, which is applied during a transfer of funds, such as paying sales tax.

“The way the Legislature set up this capital gains tax, it's an excise tax on the sale of certain stocks and bonds, measured by the gain,” Spitzer said.

The court isn’t expected to issue a ruling on the case Thursday. But a decision to strike down the tax could have near-term effects. State lawmakers and Gov. Jay Inslee this spring are writing a new two-year state budget that will bank on hundreds of millions of dollars in expected revenue, earmarked for early-learning programs and K-12 public schools. 

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