The operating budget tax package includes ESSB 5814. As passed by the Legislature, the bill would apply the sales tax and the retailing B&O tax rate to certain services:

• Information technology training services, technical support, and other services;
• Custom website development services;
• Investigation, security services, security monitoring services, and armored car services;
• Temporary staffing services (except for staffing for hospitals);
• Advertising services (excluding web hosting, newspapers, printing or publishing, radio and television, and out-of-home advertising);
• Live presentations (whether in-person or online); and
• Digital automated services (DAS) that primarily involve the application of human effort.

Most of these changes would not apply to sales between members of an affiliated group.

The bill would also expand the definition of “tobacco products” so that the tobacco products tax would apply to products that contain nicotine, whether derived from tobacco or created synthetically.

A fiscal note for the bill was published today. The Department of Revenue (DOR) estimates that it would increase revenues to funds subject to the outlook (NGFO) by $1.147 billion in 2025–27 and $1.534 billion in 2027–29.

As the fiscal note explains, the services included are generally currently subject to the service and other activities B&O tax rate (1.5% or 1.75%, depending on income). Under ESSB 5814, their B&O tax rate would be the retailing rate of 0.471% and they would be subject to retail sales tax. (For example, in 2025–27, revenues from the retail sales tax would increase by $1.313 billion and revenues from the B&O tax would decrease by $278.4 million.)

However, note that there are interactions with the B&O tax changes in ESHB 2081. ESHB 2081 would increase the retailing B&O rate to 0.5%, but that is not taken into account by the fiscal note for ESSB 5814. (It is appropriate for fiscal notes to compare a bill to current law. See also my post from earlier today, about ESHB 2081’s interactions with ESSB 5794.)

ESHB 2081 is a wide-ranging bill that could have many unintended consequences, and it’s not clear to me how many possible outcomes are considered by the fiscal note. For example, does it assume that sales tax would be applied to tuition (in-person live presentations)?

The fiscal note does state, “The tax impact from repealing the DAS exclusion for primarily human effort is indeterminate.” This is potentially a very large hole in the estimate. Digital automated services are services transferred electronically using software applications. By excluding such services that primarily involve the application of human effort, current law excludes professional services like accounting, for example, from the sales tax.

Additionally, the fiscal note does not include a warning about the litigation risk to the bill. As the Tax Foundation notes, federal law (the Internet Tax Freedom Act) “prohibits discriminatory taxes on e-commerce, preventing states from taxing the digital version of a good or service if the tangible equivalent is not taxed in like manner.” ESSB 5814 would tax digital advertising but not offline advertising.

The Council on State Taxation (COST) notes that the bill would apply the sales tax to “services that are mostly, if not exclusively purchased by businesses. This base expansion to business-to-business transactions (business inputs) violates several principles of sound tax policy.” Additionally, COST points out that the bill would “require most taxpayers to initiate extensive system changes to collect and remit the proposed tax within the sales tax system.”

Both COST and the Tax Foundation raise questions about what sourcing rules would apply under the bill. The Tax Foundation argues that the bill “could impose Washington’s high-rate sales tax on all worldwide digital advertising purchased by Washington-based businesses.” Thus, “Under the plain language of SB 5814, they would pay 10.2 percent or more on every dollar they spend on digital advertising across the world, but could avoid the entirety of that tax if able to shift their primary location out-of-state.”

Indeed, as COST writes, “Enactment of such a proposal will significantly impact Washington’s economic competitiveness and growth as it will place Washington’s businesses at a competitive disadvantage.” Further,

The economic burden of taxes on business inputs inevitably shifts to consumers through higher prices or to labor in the State through lower wages and fewer jobs. To put it simply, although this tax is a direct tax on businesses, the vast majority of the tax will be passed along to Washington citizens through higher prices and/or stagnating wages.