If you have a lot of passive investment income, you may have felt the bite of the new Net Investment Income Tax in 2013. This extra 3.8% levy on certain investment income was passed in 2010 but didn’t take effect until January 1, 2013.
The NIIT apples to modified adjusted gross incomes of over $200,000 for singles or $250,000 for married couples. Interest, dividends, capital gains, rental and royalty income, non-qualified annuities, and businesses that are taxed as “passive activities” or income from businesses involved in trading financial instruments of commodities are all subject to the NIIT.
So how can you reduce the impact of this far-reaching tax? Besides the extreme solutions like getting divorced if you’re married (to increase the amount you can receive together before it becomes subject to the NIIT) or applying for citizenship elsewhere, fleeing the country, and filing as a nonresident alien (who aren’t subject to the NIIT), here are 11 ways suggested by Forbes.
- Buy munis. The NIIT doesn’t apply to interest of dividends that are excluded from federal income tax, including state and municipal bond interest. Muni interest also doesn’t count in your modified adjusted gross income, so if you’re on the edge of $200,000 or $250,000 you can escape the NIIT that way.
- Give to charity. When you donate appreciated property to charity, you can deduct the value of your gift and you don’t have to recognize the appreciation for the capital gains tax or the NIIT.
- Give to relatives. When you give appreciated property to relatives with income below the $200,000 or $250,000 thresholds, they can sell it. If you give to your kids, they have to pay capital gains income tax at your rate, but they don’t have to pay the NIIT.
- Lend your business money. Loan interest isn’t subject to the NIIT if it’s a loan made your business. Just be sure the business is legit.
- Be active in your business. The NIIT is aimed at passive income. If you play an active role in your business, (defined as working more than 500 hours per year in your business), it’s considered earned income, not passive.
- Rent property to your business. Rental income is subject to the NIIT, but renting property to your business is an exception (for some reason).
- Get your real estate license. If you qualify as a real estate professional, you can report rental income as earned income, exempt from the NIIT. To qualify, you have to spend more then 500 hours a year on real estate and more hours on real estate than any other profession you may have.
- Exchange property. If you do a Section 1031 like-kind exchange on a property instead of selling it, you defer regular capital gains tax as well as the NIIT.
- See if selling on installment would help. The NIIT is levied on proceeds from installment sales when they’re received rather than at the time of the sale. If delaying the NIIT would help you, you can sell on installment.
- Sell the losers. Net capital losses offset gains for NIIT purposes (as long as the gains and losses would have been classified as net investment income).
- Talk with and pay your advisors. Your gross investment income can be reduced by related deductions—including investment interest expenses like advisory and brokerage fees, tax planning and prep fees, fiduciary expenses, and state and local income taxes.
Because the NIIT is still new and the final regulations are complex, keep in mind that some of these moves, depending on your situation, may have other tax consequences. If you’d like to see how any of these ideas might help you or if you need to think of other considerations, feel free to give me a call at (864) 836-3136 and we’ll set up a time to talk.