Challenge to Washington's Capital Gains Tax Can Move Forward, Judge Rules


OLYMPIA — A Douglas County judge ruled Friday that a legal challenge to Washington's new tax on capital gains can move forward.

The ruling by Douglas County Superior Court Judge Brian Huber sets the stage for a debate that ultimately could be settled at the state Supreme Court: Is the new capital gains tax constitutional?

The legal challenge takes aim at Senate Bill 5096, which passed this spring through the Democratic-controlled House and Senate and was signed by Gov. Jay Inslee. It creates a 7% tax on the capital gains of sales of assets — like bonds and stocks — above $250,000. The law — a long-sought priority for Democrats who chafe at Washington's regressive tax system — takes effect January 2022, with the first state tax returns coming due in 2023.

The law exempts a range of assets, like retirement accounts, sales of real estate, livestock, timber and some agricultural properties, and some auto dealerships. It also exempts the sales of sole proprietor businesses with gross revenues of up to $6 million.

If it takes effect in fiscal year 2023, the tax would raise about $445 million per year. That money would go into the state's Education Legacy Trust Account, intended for child care and early learning programs.

The legal challenge is a consolidated case that started with different lawsuits against the state by several plaintiffs — including the owners of farmland and the Washington Farm Bureau — that contends the new law, among other things, imposes an income tax.  In that scenario, it could violate the Washington Constitution, which states that taxes are to be applied uniformly across the same classes of property.

Democratic lawmakers have said they structured the new law as an excise tax, and that the policy is constitutionally sound.  The state Attorney General's Office, which is tasked with defending the state in court, sought to dismiss the challenges in part because there's no certainty the plaintiffs would ever actually pay the tax themselves.

But in his order, Huber rejected that argument. He cited, among other things, an allegation by plaintiffs that the new tax has already "lowered the market value of their property and forced them to make tax planning decisions that impact their financial interests in a way that is concrete and non-speculative."

The judge also denied a request by the Attorney General's Office that the case be moved to Thurston County if it were to proceed.

In a statement, Solicitor General Noah Purcell said the Attorney General's Office disagreed with Friday's ruling, but "we have every confidence that this law will ultimately be upheld."

"Less than one-tenth of 1% of Washingtonians will owe this tax, and it's impossible for the plaintiffs to know if they will be part of that small group," Purcell said in prepared remarks.

In a statement, former state Attorney General Rob McKenna, who is representing plaintiffs, praised the decision.

"This tax is illegal because it is unconstitutional," McKenna said. "Voters have rejected proposed income taxes ten times, and the courts have rejected the Washington legislature's past efforts to enact an income tax by labeling it an 'excise tax.' We are confident the courts will reach the same conclusion in this case."

A statement by the conservative group Freedom Foundation, which is also representing plaintiffs, praised Huber's decision to keep the case in Douglas County, rather than move it to Olympia.

Freedom Foundation CEO Aaron Withe in prepared remarks described the state's motion to move the case an attempt to "hand them a home-court advantage by hearing the case in Olympia rather than rural Waterville."