Capital Gains Tax Ruled To Be An Excise Tax On The Privilege Of Selling Assets ' But There Is A Silver Lining

• Jurisdiction: Washington,United States,Federal
• Law Firm: Lane Powell
• Subject Matter: Tax, Income Tax, Capital Gains Tax
• Author: Ms Callie Castillo, Scott Edwards, Brett Durbin, Aaron Johnson and Aimee Miller
• Published date: 04 April 2023

Tax Legal Update

In a 7-2 decision, the Washington Supreme Court has ruled that Washington's capital gains tax is an excise tax and therefore not subject to the Uniformity Clause of the Washington state constitution. In Quinn v. Washington, Wash., No. 100769-8, 3/24/23, the Court accepted the state's argument that the tax is imposed "on the sale or exchange of capital assets, not on capital assets or gains themselves." The Court also rejected the plaintiffs' other constitutional arguments finding no violation of either the State constitution's Privileges and Immunities Clause or the Commerce Clause of the U.S. Constitution. The two dissenting justices agreed with the Superior Court that the capital gains tax is an income tax, not an excise tax, and that it violates the Uniformity Clause of the Washington Constitution.

Income Tax v. Excise Tax

The Superior Court had ruled that a tax based on net income reported on an individual's federal income tax is a tax on income, not an excise tax on the privilege of selling property. The Washington Supreme Court, however, was unpersuaded by either the Superior Court's reliance on Washington court cases logic and the U.S. Supreme Court's caution that "labeling [a tax] a tax on 'business activity' does not permit us to forgo examination of the actual tax base ... 'A tax on sleeping measured by the number of pair of shoes you have in your closet is a tax on shoes.'" Trinova Corp. v. Michigan Dep't of Treasury, 498 U.S. 358, 374 (1991).

Silver Lining

There is a silver lining to the Court's analysis. By concluding that a tax on capital gains is an excise tax on the privilege of owning and selling assets, and not overturning the Court's prior decisions holding that income is property subject to the state constitution's uniformity and levy limitations, the Court made it much harder for the Legislature to adopt a broad-based income tax. Instead, we now expect there likely will be pressure on the Washington Legislature to begin eroding the $250,000 exemption amount and/or increasing the tax rate beyond 7%.

Retroactive Effect

Because the Court found that the Capital Gains Tax is a valid excise tax, rather than an income tax, the tax became effective in January 2022. The tax on capital gains realized in calendar year 2022 is due April 18, 2023; as with federal income taxes, an extension for filing the tax return only extends the return filing date, not the tax due date. As the majority noted in its opinion, the State estimates...