New tax on unearned income starts in 2013
NEW TAX ON UNEARNED INCOME STARTS IN 2013
As part of the Patient Protection and Affordable Care Act
(popularly known as the “health care reform law”), an additional 3.8% tax on
unearned income will apply to certain individuals.
Who’s Impacted by the
3.8% Unearned Income Tax?
Starting in 2013, the new tax, technically known as the
“unearned income Medicare contribution,” applies to the net investment income
of higher income individuals, trusts, and estates. For individuals, the tax is
equal to 3.8% of the lesser of (1) investment income for the year or (2) the
amount by which modified adjusted gross income (MAGI) exceeds the applicable
threshold amount for the taxpayer’s filing status. These thresholds are:
Filing Status Threshold Amt.*
Individual Taxpayers $200,000
Married (Joint) $250,000
Married (Separate) $125,000
* These amounts are not
Example. Bill’s 2013 MAGI
is $250,000, $50,000 more than the $200,000 threshold for his single filing
status. His net investment income is $60,000. Bill will owe the 3.8% tax on
$50,000, since that amount is less than his $60,000 net investment income.
Definition of Net
For purposes of the new tax, “net investment income”
includes gross income from interest, dividends, annuities, royalties, rents
(other than rents derived from a trade or business), and net capital gain. It
also includes income from “passive” trade or business activities, such as
pass-through income from limited partnerships, S corporations, and limited
liability companies in which a taxpayer does not materially participate. The
3.8% tax does not apply, however, to
qualified retirement plan and individual retirement account distributions.
Taxpayers will have to plan carefully to minimize their
exposure to the new tax. Various income-timing strategies may be effective,
especially if a taxpayer’s MAGI is close to the applicable threshold.
Other strategies that may be helpful include, to the
extent possible, offsetting capital gains with losses in the same year or
investing in municipal bonds, since tax-exempt interest won’t be included in
net investment income or MAGI for purposes of this tax.
Consider, too, maximizing your pretax contributions to
retirement plans or selling appreciated investments in 2012 (before the new tax
takes effect) instead of 2013.
We Can Help
Taxes are only one factor to consider when weighing
investment decisions. Make sure you weigh all factors applicable to you.
Contact us for more information on how the new additional tax on unearned
income may affect your personal situation.