Is Washington state tax reform finally coming?

Washington’s legislature is fixing to impose a capital gains tax on the “wealthy” to fund early childhood education and childcare programs. The bill has passed both houses, and the governor says he’ll sign it, but differing versions first have to be reconciled. (Read story here.)

It would represent a breakthrough, because Washington currently doesn’t tax any form of income. And if this takes effect, it’s sure to be challenged in court, because of a 1936 Washington supreme court decision that interpreted the state constitution as ruling out taxing incomes. But tax reformers see that as an opportunity. For decades, they’re been itching to overturn that decision, and they believe today’s more liberal court might well do it, so they will welcome a legal battle. Republicans even believe a hidden purpose of this tax bill is to instigate it.

Never in recent memory have Washington’s tax reformers felt so optimistic (see story here), but I’m skeptical of their optimism.

What this tax will not do is replace existing taxes, or reduce taxes for anyone, and that’s the Achilles heel of state tax reform in Washington, where voters have rejected a state income tax 6 times over the years. This despite the fact that Washington has the nation’s most regressive state and local taxes, which unfairly burden lower-income households while leaving high-income households almost untaxed.

Currently, Washington relies primarily on a 10% sales tax to fund general government, and property taxes to fund education. Of the sales tax, 6% goes to the state, 4% to local jurisdictions, plus there are local add-ons in the most populous counties for things like mass transportation. Washington’s property taxes are about average, but unlike in other states, instead of being collected directly by school districts, are funneled through the state education department and counted as part of the state budget. There’s also a tax, known as the B&O tax, on business gross revenues, not profits, which goes into the general fund. Washington also has one of the highest gas taxes, and a hefty car tab fee.

Overall, Washington’s state and local tax burdens are average. Among the 50 states, it’s squarely in the middle, ranking 24th (see rankings here). So Washingtonians, on the whole, aren’t overtaxed. The problem is extreme disparities in how those taxes are distributed.

Any sales tax is regressive. It only taxes income that’s spent, and low-income households spend all of theirs, while high-income households save much of theirs. How does this affect the individual tax burden? To find out, the legislature in 2002 commissioned a study chaired by Bill Gate’s father, a prominent attorney, that concluded the lowest one-fifth of households paid 16% of their incomes in state and local taxes, while the top one-fifth paid only 3% of theirs.

The commission’s report (links here) went further and recommended replacing the 6% state sales tax and the B&O tax with a revenue-neutral state income tax. Under this scheme, the sales tax would drop to 4%. But even though the majority of Washington residents would have gotten a tax cut from this, the idea went nowhere, because of entrenched public opposition to a state income tax.

Why is it entrenched? Because the voters don’t trust politicians. That Achilles heel. A majority of Washingtonians simply don’t believe a state income tax would remain revenue-neutral; they’re convinced it would create an irresistible temptation for politicians to raise taxes for new spending programs.

That could doom the capital gains tax, too, if a provision in the house-passed version is retained in reconciliation which would refer final adoption of the tax to a vote of the people, My guess is they’ll vote it down, because it would go for new spending, instead of lowering any existing tax. It would give tax relief to no one, while opening a door to imposition of more taxes through future expansion.

Even Washington’s richest resident, Bill Gates, favors a state income tax as a matter of equity (read story here). Given that Washington’s tax system is the nation’s most unfair, what’s preventing tax reform? Fundamentally, a deep-seated fear that changing the tax structure eventually will lead to higher taxes for all. Any tax increase, no matter who it falls on, is seen as a camel’s nose in the tent by those already under oppressive tax burdens.¬†Experience to date has reinforced those fears; when government has needed more money, it has been forced to raise regressive taxes, because progressive taxation is unavailable. This has resulted in more taxes being piled on those least able to afford them.

Consequently, when tax reformers float something like a capital gains tax on the wealthy, it sends shock waves through the groups of less-wealthy, because they think they’re going to tax our incomes next. It isn’t rational, they’re not doing the math, but that’s the reality facing Washington’s tax reformers. That mentality will continue to be an obstacle to tax reform whenever a new tax is proposed for a new spending initiative.

The only way you’re going to get public support for taxing high earners is by using the money to lower taxes for the rest of us. This bill doesn’t redistribute the tax burden; it’s simply a new tax. That’s why I think a public vote would kill it.

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0 Comments Add Yours ↓

  1. Mark Adams #

    If it were to get to a public vote. It is likely once the bill is signed there will be a court challenge. Two things the Progressives miss is Washington state judges are elected. Raise taxes and voters do remember and what is normally an uncontested election turns into a real election, though civil. And as in 1935b judges pay taxes. They may not be in the highest tax brackets, but judges do well, and many have other income, maybe even capital gains.

  2. Roger Rabbit #

    You’re insinuating judges’ decisions are influenced by personal financial considerations? That really insults judges. It also isn’t true.