When discussing state and local tax systems, Washington State often appears as a paradox. It’s known for having no state income tax, an attribute that seems advantageous on the surface. However, according to the Institute on Taxation and Economic Policy (ITEP), Washington has the second most regressive tax system in the country. Let’s break down what this means, why Washington ranks so poorly, and the broader implications for residents.
What is the ITEP Tax Inequality Index?
The ITEP Tax Inequality Index is a tool developed to evaluate how state and local tax systems affect income inequality. The index measures whether state and local taxes help reduce the gap between high- and low-income earners or exacerbate it. A regressive tax system, like Washington’s, disproportionately impacts lower-income households, forcing them to pay a larger share of their income compared to wealthier residents.
Washington’s #2 Ranking on the ITEP Index
Washington consistently ranks near the top of ITEP’s list for tax inequality, trailing only behind Florida as the most regressive state. According to ITEP, income disparities in Washington grow after state and local taxes are collected, rather than narrowing. This is due to the state’s heavy reliance on consumption-based taxes and its lack of a progressive income tax.
The Drivers of Washington’s Tax Inequality
1. No State Income Tax
Washington is one of nine states that does not impose a state income tax. While this is marketed as a benefit, it eliminates a progressive tool that could balance the tax burden. In states with income taxes, wealthier individuals contribute a larger share of their income, helping to fund public services more equitably.
2. Heavy Reliance on Sales Tax
Washington depends heavily on sales and excise taxes to fund its budget. The statewide sales tax is among the highest in the nation, and when combined with local sales taxes, it often exceeds 10% in many areas. This system hits low- and middle-income households hardest because they spend a higher percentage of their income on taxable goods and services.
3. Property Tax Inequities
While Washington has property taxes, they are not structured in a way that adequately addresses the wealth gap. For homeowners with high-value properties or for large commercial entities, property tax burdens often don’t scale proportionally with income or wealth.
4. Excise Taxes on Essentials
Excise taxes on items like gasoline, alcohol, and tobacco disproportionately impact lower-income residents. These taxes are flat fees, meaning they take a larger percentage of income from those earning less.
Why the “No Income Tax” Benefit Is Moot
Although Washington’s lack of an income tax is often promoted as a business-friendly feature and a draw for affluent individuals, the reality is more nuanced:
- Higher Overall Tax Burden for Low-Income Families According to ITEP, the poorest 20% of Washington households pay nearly 17% of their income in state and local taxes. Meanwhile, the wealthiest 1% pay just 3% of their income.
- Limited Funding for Public Services A tax system reliant on sales and excise taxes is less stable than one with a broad-based income tax. During economic downturns, consumer spending decreases, leading to revenue shortfalls and cuts to essential services.
- Hidden Costs The lack of income tax forces the state to find revenue in other ways, such as increased fees for services, tolls, and higher business taxes, which often get passed down to consumers.
Potential Benefits of Reforming Washington’s Tax System
While Washington’s current system favors the wealthiest, adopting more progressive tax policies could help address inequality and provide sustainable funding for public needs, such as:
- Reducing the Sales Tax Burden: Lowering the sales tax rate or exempting essential goods (like groceries and healthcare) could alleviate the pressure on low-income households.
- Implementing a Capital Gains Tax: This would target wealth generated from investments, ensuring that the richest residents contribute more without taxing wages.
- Adopting an Income Tax: Even a modest, progressive income tax could reduce the regressive nature of the system and help stabilize funding for education, healthcare, and infrastructure.
Conclusion
Washington’s ranking on the ITEP Tax Inequality Index highlights the disparities embedded in its tax structure. While the absence of an income tax might seem appealing, the state’s reliance on sales and excise taxes places an undue burden on those least able to afford it. For Washington to move toward a fairer tax system, lawmakers must consider bold reforms that balance the scales and ensure that everyone contributes their fair share.