Gov. Jay Inslee’s two-year budget wish list, unveiled shortly before Christmas, would boost taxes on tens of thousands of service-industry businesses — everything from law firms and bookkeepers to beauty shops, janitors, musical groups and funeral parlors.
To help pay for what he calls a “bold” budget that would halt the chronic and unconstitutional underfunding of Washington’s public schools, Gov. Jay Inslee is pushing the largest state business-tax increase in decades.
The Democratic governor’s jumbo two-year budget wish list, unveiled shortly before Christmas, would boost taxes on tens of thousands of service-industry businesses, affecting everything from law firms and bookkeepers to beauty shops, janitors, musical groups and funeral parlors.
Inslee’s plan — which is already being panned by Republicans and some business groups — would raise the state’s business and occupation (B&O) tax rate for such services to 2.5 percent, from the current 1.5 percent.
That would generate an estimated $2.2 billion over the 2017-19 biennium — the largest single element in the governor’s $4.4 billion operating-budget tax package, which also proposes new taxes on capital gains and carbon pollution.
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Inslee argues higher taxes are needed to fund teacher salaries, solving the last big piece of the state Supreme Court’s 2012 education-funding order known as the McCleary decision. His plan goes beyond the McCleary minimums, adding money for better teacher training, school nurses and counselors.
His budget also packs in more than $700 million in pay raises for state workers and $300 million in fixes for the state’s troubled mental-health system.
“This is big, this is bold, and this is the right thing to do,” Inslee said at a news conference this month. He and his aides framed his B&O tax increase as a fair tweak for an outdated tax code that has not kept pace with service-sector growth.
“It’s a relatively low tax on something that in some places is taxed much, much higher,” said David Schumacher, the governor’s budget director.
Service businesses already pay a substantially higher B&O rate than retailers and manufacturers. However, most services remain exempt from the state’s retail sales tax of 6.5 percent, which reaches nearly 10 percent in Seattle once local taxes are added.
If adopted, Inslee’s business-tax increase would be the biggest since 1993, when then-Gov. Mike Lowry and lawmakers similarly raised B&O taxes on service businesses and others as part of a $668 million tax package in response to a budget shortfall. Those tax increases were repealed a few years later.
Inslee’s proposal already is drawing firm opposition from Republicans who hold a majority in the state Senate.
“It’s staggering, frankly,” said state Sen. John Braun, R-Centralia, vice chairman of the Senate Ways and Means Committee. “There’s no way something like this comes out of the Senate. It’s not even open for discussion until House Democrats pass it out of their chamber.”
Braun said the GOP will seek to have the state live within its means, noting tax revenue is expected to grow by $2.6 billion over the next two years without new taxes.
There’s no guarantee majority House Democrats will embrace Inslee’s B&O plan, either.
State Rep. Kristine Lytton, D-Anacortes, who chairs the House Finance Committee, praised the governor’s work toward solving the state’s McCleary education-funding obligations.
But Lytton said she is sensitive to the possible harm of raising taxes on small businesses. “I will look at that very closely,” she said. “I think we have to recognize that is a real challenge for a lot of people.”
Washington is among the few states that do not impose a corporate income tax. Instead, it levies the B&O tax, which is applied to gross receipts, meaning businesses pay the tax regardless of whether they’re profitable.
Inslee’s B&O tax proposal would affect some 170,000 businesses, according to the state budget office. He would soften the blow for the smallest businesses by raising the tax-filing threshold to $100,000 and offering additional tax credits.
That doesn’t impress Dean Hartman, who employs 27 people at Capitol Business Machines, an Olympia copier sales and service business.
Hartman called Inslee’s B&O proposal “tax discrimination” and said it would increase not only his own taxes, but also the cost of services his business buys.
“If Inslee used just as much energy to cut government as he did to increase taxes, I’d have more respect for him,” he said. “Cut back. That’s my answer.”
Nearly $50 million in fines
Inslee’s proposal follows a pattern of Democratic politicians seeking to tap small businesses with a tax rather obscure to the general public, said Patrick Connor, state director for the National Federation of Independent Business.
“It’s a potentially big pot of money with a relatively small adjustment,” Connor said. “It’s harder for the public to notice the change and blame the government for it. Instead, it’s the shopkeeper who gets blamed for raising prices.”
Lawmakers have certainly eyed the tax over the years. In 2010, facing steep budget cuts due to the Great Recession, the Legislature and then-Gov. Chris Gregoire agreed to temporarily raise the B&O tax on services by 0.3 percent.
That increase expired in 2013 over the objections of Democrats, who argued it should be maintained in light of the state’s education-funding crisis.
The Supreme Court has held the state in contempt for failing to meet its constitutional duty to schools and imposed a $100,000-a-day fine that has now quietly accrued to nearly $50 million. The justices have ordered the governor and lawmakers to adopt a full-funding plan by the end of the 2017 legislative session.
State Sen. Reuven Carlyle, D-Seattle, a longtime critic of the state’s unevenly applied tax code, said if lawmakers had kept that smaller B&O tax in place, the state could have avoided the Supreme Court’s contempt fine.
He said there was no evidence the temporary B&O tax boost had any substantial negative impact on businesses. Carlyle said Inslee’s proposal to tap the service sector is “a legitimate first step” in the debate over how to pay for the state’s obligations.
“The biggest problem we have in this state, top to bottom, one side to the other, is that our tax system does not grow and connect and breathe with today’s economy,” he said.