State Officials Proceed With Capital Gains Tax Plans Despite Court Ruling Deeming It Unconstitutional » Publications » Washington Policy Center

When a court decides that a tax is “declared unconstitutional and invalid and, therefore, void and unenforceable at law,” what happens next? One would think this would mean that efforts by state officials to implement the tax would be halted. To see if this is the case for the capital gains income tax now declared unconstitutional by the court, I asked the Washington Department of Revenue (DOR) what its current plans are. The DOR basically told me that they were doing the same with capital gains tax as before the ruling. Here is my exchange with DOR (my questions in italics and DOR’s response in bold):

Last week, Douglas County Superior Court signed an order saying, “ESSB 5096 is declared unconstitutional and invalid and, therefore, is void and of no effect at law.”

Realizing that the Attorney General has filed a petition for direct review with the state Supreme Court, how does the DOR plan to handle any new regulations or implementations of SB 5096 during the appeals process?

DOR: “The agency is obligated to move forward with the implementation process pending the final outcome of the prosecutions.”

Assuming no final appeal decision is rendered until April 2023, how, if at all, does DOR plan to pursue tax collection?

DOR: “There is still some time before a decision is made on how to resolve this issue. At this time, that decision has not been made.”

I recall that pursuant to the 2019 Bank Tax District Court ruling, the DOR advised the Economic Forecast Board that recoveries would not be pursued. Does DOR plan to do the same for SB 5096?

DOR: “The difference in this case is that the banks were obligated to deposit on a monthly basis while this case was on appeal. No filings are due until April 2023 for capital gains.

On that last question, here’s what Dr. Lerch of the Economic Revenue Forecast Council (ERFC) told me last week:

“When ERFC staff became aware that the DOR was not actively pursuing bank tax compliance, we removed the estimated tax note amount from the June 2020 revenue forecast. Following the Court’s ruling supreme of 2021 reinstating the tax, the estimated revenue from the bank tax has been included in the forecast for September 2021.”

The November 2021 state revenue forecast explained the move:

“Part of the planned revenue increase under the Revenue Act was the addition of revenue from a 1.2% B&O tax surcharge on the business of certain large financial institutions. That revenue had been excluded from the forecast shortly after the surtax was imposed in 2020 due to a court case that declared it invalid. After the September forecast, the Washington State Supreme Court ruled that the surcharge was indeed valid.

Perhaps in response to the earlier handling of the bank tax dispute, ERFC staff posed this question last week:

“Capital Gains Tax Revenue. The revenue forecast adopted by the ERFC in February 2022 incorporates revenue assumed from the enactment of Chapter 196, Acts of 2021 (Capital Gains Tax). March 1 2022, the Douglas County Superior Court overturned the tax. The state is appealing the Douglas County Superior Court’s decision and requested a direct review of the Superior Court’s decision by the Supreme Court of Washington State The revenue forecast adopted by the ERFC in February 2022 includes a capital gains revenue assumption of $1.155 billion NGF-O over the 4-year period.

Question 1: Does the ERFC wish that the outlook for the supplementary operating budget adopted for the financial year 2022 prepared by the working group: a. assume that the February 2022 revenue forecast makes no adjustments related to the Douglas County Superior Court decision; or b. make an adjustment related to the Douglas County Superior Court decision on the revenue forecast and update the 4.5% revenue growth adjustment for the next biennium and the 1% transfer accordingly of the fiscal stabilization account. This is estimated at a net reduction of $731 million in NGF‐O resources over the 4 year period.

In response to this question from staff, Rep. Orcutt, at the March 31 meeting of the ERFC, moved a motion to not include capital gains tax income, as per the decision of the court that found it unconstitutional. Senator Rolfes, however, opposed and encouraged keeping revenue in the forecast. The Office of Financial Management and the State Treasurer agreed with Senator Rolfes and wanted to continue to assume the revenue.

Rep. Orcutt’s motion ultimately failed, meaning the ERFC will continue to assume capital gains tax revenues for purposes of the state’s budget outlook and revenue forecast despite the fact that the court declared the tax to be “unconstitutional and invalid and, therefore, void and of no effect as a matter of law.”

Both the ERFC and the DOR are proceeding as if the capital gains income tax had not been found unconstitutional pending any future appellate court action.

If Superior Court decisions are to be treated as mere advisory opinions unless a higher court intervenes, perhaps a new process should be put in place to challenge the constitutionally suspect actions of government officials. State so that taxpayers don’t have to waste time and resources with successful lawsuits that will be ignored, creating more uncertainty.

Unconstitutional. Invalid. To cancel. Inoperable. These words from the Superior Court apparently mean something different for state officials who continue to press ahead with their capital gains tax plans.

Further information
Tax structure task force votes to abolish income tax
WPC played a significant role in ruling that capital gains income tax is unconstitutional

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