The owners of Neighbours, a gay dance club on Capitol Hill, are facing the same problem as countless other bars in the Seattle area: an unexpected tax on dancing—a tax that can be applied retroactively for four years, minimum—that other bar owners are afraid to openly talk about. But instead of staying silent, this week Neighbours is trying another tactic. They're preparing to sue the state.

"We hope to bar the Department of Revenue from taxing clubs such as Neighbours in the way they're doing now," says Mark Kimball of MDK Law Associates, who's representing the club. He anticipates filing a lawsuit in King County or Thurston County within the next six months.

The trouble for Neighbours began late last year when state auditors from the Department of Revenue (DOR) told the nightclub's owners that they had to pay the so-called dancing tax for the first time—in total "a six-­figure-plus amount," according to Kimball—even though the club had been audited at least twice before (since opening in 1983) and the state had never mentioned the tax. Kimball says that paying the tax "won't put the club out of business—unlike many others." But regardless, he argues that the sudden, uneven application of the tax is illegal.

"It isn't fair to go back and say, 'Retroactively we're going to treat you differently than we have for the last 20 or 30 years,' when the statute hasn't changed," Kimball says. He contends the DOR simply doesn't have that authority, adding, "The legislature can make that distinction, but they haven't done so."

At the heart of the controversy is a vaguely worded, 50-year-old law (WAC 458-20-183) that leverages a 9.5 percent sales tax on amusement, recreation, and "charges made for providing the opportunity to dance."

The DOR says it has collected the tax since the 1970s. Furthermore, the onus is on venues to know about (and pay) sales tax on cover charges and ticket sales for "events that promote dancing," says DOR spokesman Mike Gowrylow.

But, paradoxically, not every event that features dancing must pay. If this next part seems confusing, well, it is. "If you go to the Gorge," Gowrylow explains, "you're paying $50 to watch a concert. You don't go to dance, so the sales tax wouldn't apply, even though there's an open area where people dance." Tickets and cover charges to live music are classified as "entertainment" and are exempt from the tax.

Therefore, the DOR argues, the sales tax applies to dance venues like Neighbours but not established concert venues like the Showbox Sodo, KeyArena, or the Gorge Amphitheatre. People paying to see DJs are paying to dance, Gowrylow explains, so venues with DJs are expected to pay the dance tax.

"It seems pretty simple to us," Gowrylow says.

"If they're taking the position that a live band is different from a DJ, which they appear to be doing, they can't," counters Kimball. This, too, is grounds for Neighbours' lawsuit: "They're not allowed to favor one live performance over another. It's unconstitutional."

Kimball says he's found at least 25 other music venues in the Seattle area hit by the DOR's "bald-faced money grab" in the last few years, but he won't release their names. Three other Seattle club owners who've been audited for the tax—for up to $210,000, in one case—have spoken to The Stranger on the condition of anonymity for themselves and their venues.

While bar owners say the state hasn't been collecting this tax until very recently, Gowrylow says that's not the case. Of the 13 bars within city limits audited in 2010–2011 that should be paying, he says, eight of them were already paying of their own volition. But he didn't have records for past years.

Pete Hanning, president of the Seattle Nightlife and Music Association (SNMA), says club owners are reticent to speak because "there are concerns about the DOR being vindictive to those working on this issue." The SNMA and the Washington Restaurant Association, along with individual bar owners affected by the tax, are meeting with the DOR to try and clarify the law and (in individual cases) see if the past debts can be excused. If not, owners may be held personally liable for massive debts.