Net Income Investment Tax also referred to as NIIT, doesn’t apply to everyone. Certain conditions must be met. In this article, we’ll go through the details of what NIIT is and when you can expect to incur it.
Net Income Investment Tax Defined
NIIT is an income threshold-based tax. It uses your MAGI (modified adjusted gross income) as income. NIIT income must be passive. For example, if you are an active partner in a business, your income is not subject to NIIT. But if you are a passive partner in a business, your income will be subject to NIIT.
Other forms of passive income that may be subject to NIIT include:
- Rental property income
- Non-qualified annuity income
- Capital gains
NIIT doesn’t apply to the following sources of income:
- Unemployment compensation
- Self-employment income
- Social Security
- Distributions from some qualified accounts
Note that NIIT is a conditional tax. This means you’ll pay NIIT on the lesser of your net investment income or the amount by which MAGI exceeds the relevant threshold.
NIIT uses IRS form 8960, which is a three-part form. The first part is your investment income. The second part is investment expenses. The third part is used for the tax calculation.
NIIT Income Thresholds
NIIT income thresholds are based on your MAGI. The thresholds are listed below.
Single/Head of Household $200,000
Married Filing Jointly $250,000
Married Filing Separately $125,000
Qualified Widow/Widower with Child $250,000
NIIT thresholds are not indexed for inflation. Why does that matter? Your income is basically indexed to inflation. That means you can expect your income to go up every year. However, NIIT thresholds will not increase due to inflation. The result is that over time, as peoples’ incomes increase, they have a higher chance of being subject to NIIT.
You don’t pay NIIT on IRA distributions. But IRA distributions can trigger NIIT. Let’s say you are married filing jointly. You make $200,000 in a year and have $30,000 in rental income, which means no NIIT.
The next year, you make $210,000 and have $35,000 rental income for a total of $245,000. Still no NIIT. However, you also took out $30,000 in IRA distributions. The total income is now $275,000. That triggers the NIIT on $25,000 of the $35,000 in rental income for an additional tax of $950 (25,000 x 0.038).
We mentioned that NIIT is conditional. The following example goes over what that means.
We’ll use the same filing status as above. MAGI is $255,000, which is $5,000 over the $250,000 threshold. Passive income is an additional $20,000, for a total income of $275,000. Because MAGI is less than the passive income amount, NIIT is owed only the $5,000 of MAGI and not the passive income.
Tips For Managing NIIT
From the above IRA example, a ROTH IRA is not subject to NIIT because distributions from a ROTH are not included in MAGI.
You can also make estimated tax payments on time to avoid late payment penalties.
You can reduce your MAGI by contributing to the following:
- Deferred compensation plans
- Increasing contributions to qualified retirement plans
- Increasing contributions to IRAs
As with any tax strategy, planning ahead is critical to maximizing tax savings. It is best to work with your tax advisor on any tax strategies, especially those dealing with NIIT.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions. It should also not be construed as advice meeting the particular investment needs of any investor. Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation. Examples shown are hypothetical and for illustrative purposes only.