May 27th 2025.
As of October 1, 2025, Washington State has implemented a new sales tax on various professional services. This means that if you are a professional who sells your services, you may be wondering about the specifics of this new tax. You may have questions about when and where it applies, as well as how you can adapt to this change. Before we dive into the details, I want to mention that things are still a bit unclear at this time. There are ongoing discussions among decision-makers about whether this tax on professionals was intended and if it will remain in effect. Now, let's get into the specifics.
How the Washington State Professional Services Tax Works
Typically, states do not impose sales tax on professional services. This has been the case for Washington state's tax laws for a long time. However, professional services can often fall under the category of digital automated services, which are subject to retail sales tax in some states. What exactly is a digital automated service? According to the legal definition, it is "any electronically transferred service that uses one or more software applications." In simpler terms, this includes services that use software to send text, files, videos, or audio to clients. As a result, professionals who use these tools to provide services may now need to calculate and collect retail sales tax. However, there is one important exception that has been in place until recently.
Historically, while professional services may have seemed like digital automated services, the state law excluded any service that primarily involved human effort by the seller and was initiated after a customer's request. However, in April 2025, the legislature removed this exclusion with Engrossed Substitute Senate Bill 5814. Shortly after, Governor Ferguson signed the bill into law, and now professional services may be subject to retail sales tax. Let's dive into which firms will be affected by this new tax.
Which Firms Need to Deal with New Sales Tax?
If you are a professional in Washington State, you will likely need to calculate, collect, and remit sales tax. To clarify, the trigger for this tax is the use of software to deliver the service. This means that the following services will likely be considered digital automated services and will, therefore, be subject to retail sales tax:
- A consultant conducts research and delivers the results through a streaming video conference, which is now considered a retail sale due to the video conferencing software.
- A researcher writes a whitepaper and emails it to a client, triggering the classification of the service as a retail sale.
- A tax accountant prepares a tax return and delivers it through an online portal, resulting in the tax return being considered a digital automated service.
- A bookkeeper provides remote general accounting services using QuickBooks Online.
It's essential to note that a professional may still be able to provide these services in non-digital and non-automated ways. For example, a consultant can give a presentation in person, a researcher can hand-deliver a paper, and a tax accountant can print a copy of the return for the client to pick up. These alternatives allow the professional to avoid being classified as a digital automated service. However, in today's world, many professionals have embraced technology and use software to automate their work. So, it may not be practical to reconfigure their workflow to avoid the sales tax.
How Business and Occupation Taxes and Rates Change
Another important point to consider is that the change in how the sales tax applies to professional services may result in some new benefits. Firstly, the business and occupation excise tax rate will likely decrease. The usual B&O tax rates for retail sales are 0.471%, while service B&O tax rates are usually 1.5% for small businesses and 1.75% for larger businesses. Additionally, while the service B&O tax applies to all of a firm's revenues, the retail sales B&O tax rate only applies to in-state sales. For example, a professional services firm with $1,000,000 in revenues would typically pay a 1.5% or 1.75% service B&O tax. However, if half of their services are provided to out-of-state customers, only $500,000 would be subject to the new, lower retail sales B&O tax. While this drop in B&O taxes may not completely offset the new sales tax, it can help compensate the firm for compliance costs and potential lost clients due to the increased prices.
Price Elasticity Means Professional Services Firms Will Lose Clients and Revenue
One crucial point to consider is that a 10% increase in prices due to the new sales tax may cause some clients to change their purchasing habits. For example, some clients may choose to go to a retail tax preparer who will provide a paper copy of the return after collecting the necessary information. Additionally, some clients may opt for an out-of-state tax accounting firm, as they are not required to follow Washington state's sales tax rules unless they provide over $100,000 in services to Washingtonians. How many clients and revenue will be lost due to this change? It's estimated to be around 3%, based on the typical elasticity of professional services, which is -0.3. In other words, a 10% price increase to clients and customers results in a 3% decrease in business.
Accounting Measures for Sales Tax
Before we wrap things up, there are a few important steps that you should take as a professional to adjust to this new sales tax:
- Ensure that your accounting system has accurate address information to correctly source sales. Remember, these sales are sourced to where the client uses the service.
- Set up your accounting system to accurately calculate the appropriate sales tax rates on invoices. This may be challenging, as Washington state has hundreds of local sales tax jurisdictions. If you have a high number of jurisdictions, it may be beneficial to use a sales tax service. In QuickBooks, you can set up sales tax code items.
- Notify your clients and customers of the new effective price increase if you will now be charging sales tax. While we cannot protect our clients from this added cost, we can inform them beforehand.
- Clearly differentiate any remaining services from retail sales on invoices. For example, if you meet with a client in person, this is considered a professional service and not a retail sale.
- Consider unbundling your services. For instance, a $1,000 tax return can be broken down into a $900 tax return and one of the following delivery options: $100 for portal delivery, $200 for mailed paper delivery, or free "counter" pickup. However, this approach has its risks, and it's best to seek guidance from the Department of Revenue before implementing it.
- If you are reading this before October 1, 2025, complete and bill any work in progress before that date. Additionally, try to collect payment for that work before October 1, as there is a possibility that the state may consider it subject to sales tax.
In conclusion, the new sales tax on professional services in Washington state may present some challenges for professionals. However, by understanding how it works and taking the necessary steps to adjust, you can navigate this change effectively.
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