Washington’s New Capital Gains Tax: What You Should Know

     After much tense debate, Washington’s Supreme Court has upheld our state’s new capital gains tax passed by the Washington legislature in 2021 which levies a 7% tax on certain types of realized capital gains over $250,000 each year. Although income taxes have widely been considered unconstitutional in Washington, the Washington Supreme Court has accepted the argument that this is not a tax on income but rather an excise tax on gain—and therefore not subject to Washington’s strict uniformity requirements that have generally frustrated prior attempts to create what feels like an income tax in this state.  This new capital gains tax went into effect January 1, 2022, but was only just now upheld as constitutional under state law after a long fight in court.  With this new tax now in place, we believe our clients should know the following facts about the new state capital gains tax in RCW Chapter 82.87:

Washington’s capital gains tax hits married couples harder than individuals.

     Each individual taxpayer in Washington gets a $250,000 exemption against capital gains. This is meant to roughly mirror the federal exemption of $250,000 per person for capital gains attributable to the sale of a primary residence. Unlike the analogous federal deduction, however, the state does not permit married couples to combine their exemptions—each married couple shares only one exemption. Worse, couples who are married but file separately must split one exemption, even though each as individual single people would have gotten $250,000 apiece. Married couples face higher taxes because they are married.

Washington’s capital gains tax exempts most real estate. 

     Although the federal capital gains tax applies against all capital assets, Washington’s new capital gains tax exempts all real property, including real property held in a business. Realized gains of stock or other intangible property is taxed, but land is not. If you thought Washington real estate prices were out of control now, just wait until you see what happens now that Washington has made every parcel of land in our state a tax shelter, no matter its size, purpose, or nature of ownership. If given the choice between owning land or owning public stocks, the tax incentive is obvious: only one of these will be taxed.

This tax is already in effect and filing requirements have already been triggered. 

     Despite this tax only being found constitutional in 2023, it was passed in 2021 with the starting date of January 1, 2022.  That date is still the applicable starting date of the new tax, meaning that 2022 is the first year it is in force—not 2023.  This means that realized gain in 2022 may be subject to this tax, even if we did not yet know at that time whether the tax would be found constitutional.  Tax reporting for the 2022 tax year was due April 18, 2023, and the Washington Department of Revenue is already well underway collecting taxes attributable to the entire 2022 tax year. It is too late to do anything about decisions made in 2022 to realize capital gains. For people who realized large amounts of capital gains in 2022, or who intend on realizing gain in 2023 onward, it is paramount that you seek guidance from your CPA about your newfound capital gains “excise” tax requirements in Washington.

Conclusion

     There are many other tricky elements to this new capital gains tax which are important to get right. We fully expect more evolution in Washington law over the coming years related to this new tax, which will likely increase both the complexity of the tax as well as our own understanding of how this tax impacts our state’s citizens.  For now, we strongly advise clients who have realized substantial gains in 2022, and those who intend on realizing substantial capital gains in 2023 onward, to speak with their CPA and their attorneys about how this tax might impact them.