Updates to Washington State's New Capital Gains Tax
If you’ve been keeping up with the recent changes in Washington’s taxes, you know that in 2021, the WA State Legislature passed a 7% capital gains tax on the sale or exchange of long-term assets to include stocks, bonds, and other types of assets and investments. The tax went into effect starting January 2022, with the first payment scheduled to be due on April 18, 2023.
This is particularly relevant to technology employees who often receive restricted stock units (RSUs) as part of their compensation package. For employees who work in Washington State, holding onto these assets long-term prior to selling may increase the RSU tax rates due to the new capital gains tax. It may impact when and how you decide to sell these shares to make the most of your compensation.
The good news is that this new legislature is not necessarily set in stone. It may still get repealed and currently awaits a final decision. That said, recent activity regarding the capital gains tax in Washington State and talk of a potential repeal has left many people feeling confused about what they owe and when.
For now, here’s what you need to know about how the tax will impact your finances.
A Timeline of the WA Capital Gains Tax
The new capital gains tax in Washington went into effect starting on January 1, 2022. Supporters of the tax argue that this will help offset the state’s lack of income tax and say that this measure has been a long time coming. In fact, a capital gains tax has been discussed and debated for the past ten years or so. However, this is not the end of the story.
March 2022 brought new debate about whether the implementation of the capital gains tax was considered constitutional during the case of Quinn vs. State of Washington. A ruling brought by the Douglas County Superior Court determined that the tax would not adhere to constitutional requirements, rendering it invalid and unclear.
As of right now, the appeal is not official but could be implemented soon.
There will be more oral arguments regarding this case beginning January 2023. While the decision will not be immediately rendered, it should be handed down in the months to follow. In the meantime, constituents can plan to pay their capital gains tax due on or before April 18, 2023 unless it is repealed by then.
What These Updates Mean for You
Unfortunately, that means that taxes are still due in April 2023 until a ruling is issued on whether the new capital gains tax is indeed constitutional. If found to be unconstitutional, your payments will be refunded at that time, with interest.
Not everyone will be affected. The capital gains tax in Washington is only for individuals who have realized more than $250,000 in capital gains in the calendar year.
However, there are other factors to consider when it comes to the capital gains tax, namely exemptions, deductions, and credits. Knowing what you are entitled to can minimize your out-of-pocket expenses and help you to keep more of your compensation and earnings.
Tax Exemptions
While many assets are included in the capital gains tax, it is important to review those that are exempt from this expense. The sale or exchange of these assets all qualify for a tax exemption:
Real estate
Interests in a privately held entity where capital gain/loss is directly attributed to real estate
Assets in some retirement accounts
Goodwill from a franchised auto dealership sale
Assets subject to, sold under, or exchanged under threat of condemnation
Assets used in a trade or business where those assets are depreciable (according to Title 26 U.S.C. Sec. 167(2)(1) of the internal revenue code) or qualify for expensing under Title 26 U.S.C. Sec. 179
Some livestock related to farming or ranching
Commercial fishing privileges
Timber, timberland, and dividends and distributions for REITs derived from the sale or exchange of these properties
Deductions
While tax exemptions are important to note, deductions can also save you some money on the new capital gains tax. Consider whether any of these situations apply to your financial situation for the tax year:
$250,000 annual deduction per individual, married couple, or domestic partnership (will be adjusted for inflation each year). Meaning the first $250,000 in realized long-term capital gains is not subject to WA State’s capital gains tax.
Long-term capital gain from the sale of all or substantially all of family-owned small businesses
Donations to charity in excess of $250,000 annually per individual (cannot exceed $100,000 per year per individual, adjusted for inflation annually)
Long-term realized losses from other stock sales. More on this below.
Tax-Loss Harvesting Just Got More Valuable in Washington State:
If you don't know what tax-loss harvesting is, take a moment to review on Nerdwallet. Higher level strategies like tax-advantaged direct indexing just got more valuable, too.
The new 7% Washington State capital gains tax applies only to the sale of long-term assets, assets that are held for more than one-year. Because of this, only the sale of long-term losses can offset long-term gains, for the purposes of calculating the tax owed.
Example 1: You sell $500,000 of XYZ stock, realizing $300,000 of long-term capital gains. You also sell $300,000 of ABC stock, realizing $75,000 of long-term losses.
Your net long-term capital gain for the year is $225,000 ($300k-$75k). Since this is under the $250,000 threshold, you will not owe the 7% tax to Washington State (but you’ll still owe taxes at the Federal level).
Example 2: You sell $500,000 of XYZ stock, realizing $300,000 of long-term capital gains. You also sell $300,000 of ABC stock, but this time, realizing $25,000 of long-term losses.
Your net long-term capital gain for the year is $275,000 ($300k-$25k). You will owe 7% on 25k (the amount over 250k) to Washington State. In addition, you will owe taxes at the Federal level on the entire 275k long-term capital gain.
Note that the ability to net losses against gains is different from the Federal capital gains tax rules, which allow you to net out short-term losses against short-term gains, long-term losses against long-term gains, and then take the net against the net.
Tax Credits
Some tax credits can also offset your overall cost:
Business and Occupation tax credit due on the sale or exchange subject to the capital gains tax
Capital gains tax credit for legally imposed income or excise tax paid to another taxing jurisdiction on the capital gains from the assets in another jurisdiction, to the extent that these gains are included in the state’s capital gains tax
Staying Up to Date on Changes
This new capital gains tax will inevitably affect tech workers in Washington State, including those in major companies like Microsoft and Amazon. If you’re worried about how these changes will affect your long-term goals, work with a trusted wealth advisor and tax planner to understand the impact and mitigate the costs to you.
The team at Consilio Wealth Advisors is here to help you manage the ups and downs associated with this pending tax. We are keeping abreast of the changes and will be there to help you navigate the updates each step of the way, regardless of the court ruling – and make sure you get the best result from your tax situation either way. Schedule a call today to meet with an advisor and learn more.
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