Washington's Ballot Initiatives 3: Repealing the Capital Gains Tax

Washington's tax structure is friendly to the wealthy. What would happen if that changes?

We start with a simple principle. Government provides things that cost money, we need a way to raise the money. How do we accomplish that in a way that causes the least possible disruption to the economy and is, in some sense, fair?

Imposing a tax on bad things, things we want less of, like pollution, is a form of “good disruption.” It’s not necessarily fair, though. We could levy a hefty tax on propane, for example, but that would disproportionately hit residents of rural areas who rely on that fuel for heat.

Then there’s a category of tax which we imagine will cause minimal disruption because the people who pay it have so much money they’ll barely notice that it’s gone. Washington state’s capital gains tax fits that description.

The tax works like this. Suppose you have an asset and you sell it. The difference between what you sold it for and what you bought it for is your capital gain. If the sum total of your capital gains in a calendar year exceeds a quarter million dollars, you owe the state of Washington nothing. If the asset you sold was your house, any other real estate, something in your retirement account, livestock, or a few other special categories of tings, you owe nothing.

But suppose you bought 1,000 shares of Amazon in early 2000 for $70 apiece, and then sold them in early 2022 for $3,000 apiece. You cleared a cool $2,930,000 in profit on the transaction. If that’s your one source of capital gain for the year, Washington state will forgive the first $250,000 but expect you to send in a check for 7% of the remaining $2,680,000. Which in this example would be $187,600.

The bad news, in this case, is that you have to write a six-figure check to the state of Washington. What’s more, the Federal government will want 20% of that gain, or $586,000. The good news is that even after paying your tax bills you’ll end up with a couple million dollars in cash.

So what’s not to like about a tax that only people who make big-time six-figure profits on asset sales pay? For one thing, the $250,000 exemption sets up a system that can be gamed. In the hypothetical case of the 1,000 shares in Amazon, a financial advisor might have suggested that the owner sell the shares gradually over a period of 12-ish years, with the profit each year safely under the $250,000 threshold. As more taxpayers get wise to the system, the revenue to the state might decline. As it did going from 2022 to 2023.

If one is part of the jet set with residences in multiple states, one can also avoid this tax by just moving one’s tax residence to someplace like Florida. As Jeff Bezos did last year.

Arguments that the state capital gains tax is just too avoidable aren’t what backers of Initiative 2109 to repeal it are making. Instead, they’re arguing that the capital gains tax is a “slippery slope” toward a broader income tax. And that the tax isn’t friendly to business.

This leads us to what might be described as “The Evergreen State Paradox.” Washington is a solidly Democratic state, with Democratic majorities in both chambers in the legislature and a 40-year stretch of Democratic governors. Yet it operates one of the nation’s most regressive tax regimes, on the end of the spectrum where states like Florida and Texas lie, at the opposite end from New York, California, and the District of Columbia.

To what extent has wealth-friendliness been the key to Washington’s half-century track record of strong economic and population growth? Is regressive taxation the proverbial goose laying the golden eggs here? Or is that theory just so much “trickle-down economics?”

Would a shift to a blue-state tax model sustain or even enhance this growth, making Washington a bit more like, say, Massachusetts? Or would we look more like a rust belt state with declining industry and population? With recent trends suggesting that Washington is already flirting with population decline, the argument over the answers to these questions will continue to animate state policy discussions.