As many of you may have heard, the City of Seattle passed an ordinance (#125339) on July 14, 2017 which imposes an income tax on Seattle residents and certain irrevocable trusts. This new tax is scheduled to take effect on income reported after January 1, 2018. There has been at least one lawsuit filed to overturn the ordinance, questioning its legality, but we wanted to pass along the information as we understand it today so that you can be informed when making decisions going forward. The anticipated income tax is imposed at a rate of 2.25% of a Seattle resident taxpayer’s total income in excess of $250,000 for taxpayers filing single, or married filing separately, or $500,000 for taxpayers filing jointly. “Total income” is defined as the amount reported as income on line 22 of IRS Form 1040 or, in the case of trusts, line 9 of IRS Form 1041.
As stated above, the tax applies to income received after January 1, 2018, and unless the ordinance is invalidated by the courts the first income tax returns and payments would be due on April 15, 2019. The tax applies to Seattle residents, meaning a taxpayer who lives in Seattle the entire year, or if living elsewhere but maintaining a permanent abode in Seattle. Please check with your legal or tax advisors for your particular residence situation.
For nonresidents who earn income in Seattle the tax will not apply. Seattle residents will have the tax apply to income from all sources. So, earnings from a job in Everett, partnership or LLC distributions from businesses in California, rent from a property in Arizona would all be subject to the tax once the income threshold is exceeded.
Business entities (with the exception of some trusts) will not be subject to the tax themselves, but the income that would be passed through to a Seattle resident would be subject to the tax whether actually passed through or not.
As mentioned above the tax applies to total income. Total income includes wages, salaries, tips, interest, dividends, capital gains, income from entities reported on Schedule C, net income reported on Schedule E, IRA distributions, annuity payments, pension payments, alimony and maintenance payments.
Trusts are the only entities subject to Seattle income tax. The tax applies to a trust or portion of a trust that is not taxable to the grantor and consists of property that was transferred to an irrevocable trust by a Seattle resident, or, a revocable trust by a trustor who was a Seattle resident at the time the trust or portion of the trust becomes irrevocable (usually when a trustor dies). Thus, irrevocable trusts will be subject to Seattle income tax without regard to the location of the trustee(s) or beneficiaries if the trustor was a Seattle resident at the time of transfer to an irrevocable trust or at the time the trust became irrevocable. The income from a grantor trust of which the grantor is a Seattle resident, or distributions of net income from a nongrantor trust to a Seattle resident, would be subject to tax as part of the Seattle resident’s total income.
As mentioned above, this tax is potentially illegal and the challenges have begun. So anyone who believes they are in a position of exposure to this tax should keep an eye on proceedings to see how this progresses. There are several legal theories being pursued to invalidate the tax. Since many of our clients here at Washington Trust Bank are Seattleites, we too will keep a close eye on how this plays out.
As Vice President and Senior Wealth Advisor, Greg provides financial analysis to high net worth individuals. He is the author of several articles for various publications and nonprofit organizations on estate and financial planning subjects.