The Net Investment Income Tax

Beginning in tax year 2013, a new “net investment income tax” (NIIT) of 3.8% applies to a taxpayer’s “net investment income” (on top of existing taxes on capital gains) when the taxpayer’s income is above the threshold amount ($200,000 for single taxpayers and heads of household and $250,000 for married individuals filing jointly).

The threshold amount is determined by adding together all income, taxable or not. If the taxpayer’s total income does not meet the threshold amount, the NIIT does not apply. If total income does exceed the threshold amount then the NIIT applies to the excess income, but is capped at total net investment income. Net investment income is generally any gains from selling stocks and bonds, investment real estate, and some partnership and S corporation interests. Net investment income does not include wages, unemployment compensation, social security benefits, self-employment income, 401(k) plans, IRAs, and nonpassive business activities. The IRS defines nonpassive activities as those in which the taxpayer doesn’t “materially participate.” Working more than 500 hours in the course of a year for your business constitutes material participation.

Example

For a single taxpayer, the relevant NIIT threshold is $200,000. If the taxpayer’s income consists of wages of $100,000 and net investment income of $50,000, the total income is $150,000. This is below the $200,000 threshold, and the NIIT does not apply. If wages are $225,000 and there is net investment income of $50,000, total income would be $275,000, which exceeds the $200,000 threshold. The NIIT would then be calculated as follows:

Total income ($275,000) minus threshold amount ($200,000) = $75,000. The $75,000 is then capped at net investment income, being $50,000.

$50,000 x 3.8% NIIT rate = $1,900 NIIT

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Roger Royse
rroyse@rroyselaw.com

Roger Royse, the founder of the Royse Law Firm, works with companies ranging from newly formed tech startups to publicly traded multinationals in a variety of industries. Roger regularly advises on complex tax structuring, high stakes business negotiations and large international financial transactions. Practicing business and tax law since 1984, Roger’s background includes work with prominent San Francisco Bay area law firms, as well as Milbank, Tweed, Hadley and McCloy in New York City. Read My Full Bio

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