More on the likelihood that Washington’s capital gains tax is unconstitutional.

Jason Mercier, with the Washington Policy Center, has posted his interview with University of Washington tax law professor Scott Schumacher on the constitutionality of Washington’s capital gains tax. Previously we wrote about and embedded Schumacher’s three-minute video on the controversial tax, in which he stated that he believes the tax is unconstitutional. In his interview with Mercier, he expands on the reasons.

In your opinion, is a capital gains tax an excise tax or an income tax? 

Professor Schumacher: “A capital gains tax is a tax on income. The federal tax laws define the term ‘income’ to include ‘gains derived from dealings in property,’ which includes capital gains. Notably, the new Washington State tax determines the amount to be taxed from the federal net long-term capital gains reported by the taxpayer. Thus, the Washington Capital Gains Tax takes an amount that is subject to income tax at the federal level and imposes an additional amount of tax on that income.” 

And,

Are there any constitutional restrictions in Washington state on the type of capital gains tax the legislature adopted?

Professor Schumacher: “If the capital gains tax is an income tax (and I think it is), then it would be unconstitutional under the Washington Constitution. The Constitution provides that all taxes on property must be uniformly applied and cannot exceed an annual rate of 1%. Here, the capital gains tax does not apply to everyone (and therefore is not ‘uniformly applied’) and the rate is 7%.”

Here’s a wrinkle we’ve not heard discussed.

Assuming a capital gains tax is an excise tax, are there any federal constitutional problems with the new Washington tax?

Professor Schumacher: “Yes. Under the U.S. Constitution’s Commerce Clause and recent U.S. Supreme Court precedent, a State tax must (1) only apply to an activity with a ‘substantial nexus’ with the taxing State, (2) be ‘fairly apportioned,’ (3) not discriminate against interstate commerce, and (4) be fairly related to the services the State provides. The first test is the key here. The Washington Capital Gains Tax applies to the capital gains of Washington residents, regardless of where the property was located. Thus, the tax could and would apply to an activity with absolutely no nexus or connection to Washington State, let alone a ‘substantial nexus.’ It is therefore unconstitutional.”

Interesting. The legal challenge to the tax is going forward in Douglas County court. 

Greg Jayne, the opinion editor at The Columbian,  wrote yesterday about the tax and its constitutionality. He thinks the tax is “the right thing to do.” We disagree. But we do agree with the last line of his conclusion:

But in considering a state capital gains tax, it seems there are two separate questions. One is whether it is constitutional, a reasonable and important question. But the other is whether it is the right thing to do. And when we reach a point in this country where money is not contingent on working, where wealth begets wealth and class divisions become self-perpetuating rather than the result of a meritocracy, a capital gains tax is, indeed, the right thing to do.

Getting there, however, is likely to require a change to the constitution rather than wishful thinking from the Legislature.

So far, voters have rejected six proposed constitutional amendments to allow an income tax. That may explain why legislative proponents of the capital gains tax opted to embrace wishful thinking.