On May 4, 2021, Governor Inslee signed the Engrossed Substitute Senate Bill 5096 (the Act), which will introduce a state tax on long-term capital gains for Washingtoners starting January 1, 2022.
TAX RATE AND BASE
The new tax will be set at a rate of seven percent on a person’s capital gains in Washington. Washington capital gains are defined as the long-term net capital gains of an individual for federal income tax purposes, subject to adjustments for certain long-term capital gains and losses and certain state loss carryforwards as described below. Transactions that do not result in long-term capital gains subject to federal income tax, such as tax-free mergers, partnership transfers, and gains on the sale of qualifying shares of small businesses, are not subject to Washington capital gains tax.
PROPERTY DISTRIBUTION, RESIDENCE AND PROPERTY ASSIGNMENT
Profits from the sale or exchange of personal tangible and intangible assets allocated to Washington are taxable. Profits are attributed to Washington State based on the location of the property sold or traded, the taxpayer’s residence, and the impact of other income and excise taxes.
For the purposes of allocating profits based on a taxpayer’s residence, the law generally follows existing Washington residence regulations, although Washington residents are considered the beneficial owners of their pro-rated long-term capital assets held by transit companies (including partnerships, pp -Corps and disregarded units). Trusts are not subject to Washington withholding tax (except in relation to the sale of property located in that state) unless (i) the donor of the trust is both Washington resident and is on the trust’s income for federal income tax purposes under US Federal Tax Act taxes the so-called Grantor Trust Rules, or (ii) the trust constitutes an incomplete gift of the trust’s assets because the Washington-based grantor has the authority to revoke the trust or retain other powers over the trust that would lead to that the trust assets are included in the estate of the testator for inheritance tax purposes.
Exceptions
The following are exempt from the newly issued tax:
Any sale or transfer of real estate (specifically defined in law) by deed, real estate contract, judgment or other lawful deed transferring ownership and be deposited as a public register with the district in which the property is located;
Profits from the sale of investments in a privately owned Essence, however only so far The Any long-term capital gain or loss from such a sale or exchange is directly attributable to real estate ownership directly through such an enterprise – gains or losses on real estate indirectly owned by that enterprise are not taken into account; and
Gains on certain eligible assets, including assets in retirement accounts, assets transferred in connection with conviction proceedings, certain livestock, certain depreciable property used in a trade or business, timber and forest areas, commercial fishing privileges, and goodwill on the sale of a Car dealer.
DEDUCTIONS AND COUPONS
The deductions under the new tax are limited to:
$ 250,000 standard print per person. Note: Married couples count as one person for the purposes of determining this deduction, regardless of whether they apply individually or jointly;
Amounts prohibited by the state under the Washington State Constitution or federal law or the United States Constitution;
The amount of Washington capital gains resulting from the sale of “substantially all” (defined as at least ninety percent) of the fair value of a qualifying family business’s assets or the transfer of substantially all of the taxpayer’s interests to small business, subject to certain conditions (including below other annual gross income of less than USD 10,000,000) are met; and
Certain eligible charitable donations provided that such donations exceed $ 250,000, limited to a maximum charitable donation deduction of $ 100,000.
Washington state capital gains tax credits are available for:
Any Washington State business and trade tax; and
Any non-Washington excise tax paid on a transaction that is also subject to capital gains tax.
Such credits may not reduce an individual’s Washington State withholding tax liability below zero.
REQUIREMENTS REQUIREMENTS
Only individuals who owe Washington state capital gains taxes are required by law to file an application. The Department of Revenue has no authority to extend filing requirements to information statements from non-debtor taxpayers. Taxpayers are required to file under the same status as their U.S. federal income tax returns (e.g., a taxpayer who co-filed federal income tax as a marriage proposal must file a Washington state capital gains tax return if they owe Washington state capital gains tax).
Individuals applying for an exemption to sell or exchange an interest in a privately held company must also submit documentation to (1) determine the market value of the property held by the company in which the interest was sold or exchanged, (2) to prove. the percentage of property shares sold or exchanged; and (3) the method, if any, of allocating any gain or loss on property sales to owners, partners or shareholders of the business.
CHALLENGES TO THE TAX
Throughout the legislature, the debate has centered on whether the capital gains tax is actually a tiered income tax (this is prohibited by the Washington State Constitution). Proponents of the tax referred to it as an excise tax on the sale or exchange of capital assets. Opponents continued to argue that it was actually an income tax. In fact, former Washington attorney general Rob McKenna has already filed a lawsuit. The lawsuit alleges that the tax is a personal income tax and is contrary to both the Washington state and US Constitution.
Since the draft law contained an emergency clause, opponents of the capital gains tax will not be able to put the tax for election in a referendum in November 2021. However, the possibility of a future initiative to change or abolish the tax remains possible.
FINAL THOUGHTS
The law presents wealthy private individuals with new tax planning challenges.