Washington Now Has an Income Tax

The Washington State Supreme Court ruled on March 24, 2023 that the state’s new capital gains tax is constitutional in a landmark decision that will forever change the battle on how to make Washington’s tax system more progressive. Washington state has avoided an income tax since passing a 1930 amendment to Article VII of its Constitution that prohibits graduated taxes on “property,” with such term broadly defined to include money.[1]  That all changed when a 7-2 ruling from the Washington State Supreme Court in Quinn v. State, No. 100769-8, slip op. (Wash. 2023) (en banc) held that a capital gains tax is not a tax on property (i.e., money), but a tax incident to the receipt of money, or a tax incident to the exercise of a privilege or right “in and to property.”[2]

The Court wrote, “The capital gains tax is appropriately characterized as an excise [tax] because it is levied on the sale or exchange of capital assets, not on capital assets or gains themselves.”[3] The new capital gains tax applies to profits in excess of $250,000 derived from the sale of certain mutual funds, stocks and bonds.[4]  Because it is not a tax on property (it is a tax on the exercise of property rights), it is not subject to the uniformity and levy requirements of article VII of the Washington Constitution and therefore the capital gains tax is constitutional. This ruling opens up the door to expand the type of assets subject to the tax to all assets involved in any transaction, and of course reducing the profit threshold from $250,000 down to any profit whatsoever.  Given the state’s progressive tendencies and the political make-up of the Court, it is reasonable to conclude that a direct graduated tax on salaries and wages will be upheld with the Court recharacterizing ordinary salaries and wages not as property as defined under the Constitution, but as the fruit of exercising a state privilege and therefore subject to an excise tax.

Why the Supreme Court distinguished this capital gains tax statue from prior income tax statutes historically found unconstitutional.

There are two opposing lines of cases at issue: Culliton and Stiner, with the Court here rejecting Culliton and its progeny as applicable to the new capital gains tax and instead concluding the capital gains tax is really a tax on the fruits of a state granted privilege, much like the state’s business and occupation tax that was found constitutional under Stiner.

Since 1930, the Court has built a steady line of cases differentiating the attributes of a property tax (income tax) versus an excise tax (a tax on goods and services) beginning with Culliton in 1933.[5] In Culliton, the Court ruled a graduated personal income tax is unconstitutional.[6] The Court held that income is “property” within the meaning of the Washington Constitution and therefore the tax must comply with the uniformity and levy requirements of Article VII, Sections 1 and 2 of the Washington Constitution.[7] Since Culliton, the courts have continued to reaffirm this holding and uniformly struck down any legislative attempt at instituting a graduated new income tax as unconstitutional.

The Court here held that Culliton and its progeny are inapplicable because they focus on property.  The capital gains tax is not a tax on property, it is a tax on the right or state granted privilege to use the property, like the business and occupational tax upheld in Stiner in 1933.[8] The Court argues that the Stiner ruling made a distinction between a property tax on income and an excise tax on a particular activity or privilege in which a tax is measured by income.[9] Stiner upheld the B&O tax as a constitutional excise tax on the “privilege of engaging in business.”[10] The Court argues that Culliton made a similar distinction between a property tax and excise tax, defining a “property tax” as a tax on the mere ownership of property, while an “excise tax” applies to the exercise of rights in and to property or the exercise of a privilege.[11]

Although the Court readily admits that “there is no ‘precise’ line separating property and excise taxes,” they nonetheless hold that in the past 100 years since Culliton, the “line has sharpened.”[12] Therefore, because the capital gains tax taxes transactions involving capital assets and not the assets themselves or the income they generate, the tax is considered an excise tax on the use of those assets and thus distinguishable from an unconstitutional graduated income tax on property.[13]

What does this mean for future taxes?

This ruling opens up the door to expand the type of assets subject to the tax to all assets involved in any transaction, and of course reducing the profit threshold from $250,000 down to any profit whatsoever.  Given the state’s progressive tendencies and the political make-up of the Court, it is reasonable to conclude that a direct graduated tax on salaries and wages will be upheld with the Court recharacterizing ordinary salaries and wages not as property as defined under the Constitution, but as the fruit of exercising a state privilege and therefore subject to an excise tax.

Tipping its hand, the Court spent significant time discussing the inequalities relating to Washington’s regressive tax system and the unequal burden it placed on the poorest individuals in the State.[14] Notably, the Court points out that a disproportionate amount of the state tax burden often falls on BIPOC[15] communities who are overrepresented in low income brackets.[16] This discussion indicates the Courts intent may be to alleviate this obligation by reexamining other taxes in light of the distinction drawn here between property and excise taxes.

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[1] Wash. Const. art. 7, § 1 “All taxes shall be uniform upon the same class of property within the territorial limits of the authority levying the tax and shall be levied and collected for public purposes only. The word ‘property’ as used herein shall mean and include everything, whether tangible or intangible, subject to ownership.”

[2] Quinn v. State, No. 100769-8, slip op. (Wash. 2023) (en banc).

[3] Id. at 3.

[4] RCW 82.87.060(1).

[5] Culliton  v. Chase, 174 Wash. 363, 385, 25 P.2d 81 (1933).

[6] Id.

[7] Quinn at 19.

[8] State ex rel. Stiner v. Yelle, 174 Wash. 402, 407, 25 P.2d 91 (1933).

[9] Quinn at 21.

[10] Stiner at 91; see Quinn at 21 (holding that the B&O tax relates to the privilege of citizens to pursue gainful occupation).

[11] Id. at 3.

[12] Id. at 20.

[13] Id. at 19 (“The capital gains tax is an excise tax because taxpayers do not owe the capital gains tax merely by virtue of owning capital assets or capital gains, like a property tax. Instead, the tax relates to the exercise of rights “in and to property”—namely, the power to sell or transfer capital assets—like an excise.”).

[14] Quinn at 4.

[15] Black, Indigenous, and People of Color (BIPOC).

[16] Quinn at 4.