March 20, 2025
The Net Investment Income Tax (NIIT) is a 3.8% surcharge tax that increases the effective tax rate imposed on investment property income, such as interest, dividends, capital gains, Income from annuities, rental income, and other passive income. It was designed to help pay for the Affordable Care Act (Obamacare) and has remained part of the tax code since it became effective in 2013. The tax is computed on the smaller net investment income or the excess of modified adjusted gross income over set income thresholds. The income thresholds vary with filing status: $250,000 for married filing jointly, $125,000 for married filing separately, and $200,000 for single taxpayers. The tax is not indexed to inflation, so many more taxpayers have been affected by this tax since its enactment. This tax is often overlooked since it is not built into the normal tax rate schedules.
To minimize this tax, investors should consider lowering their modified AGI, reducing net investment income, deferring capital gains, and donating appreciated assets. For example, married taxpayers looking to take advantage of the 15% long-term capital gains tax on their sale of stock might be required to pay an 18.8% tax rate if the stock is sold in a year when their modified adjusted gross income is above $250,000. In this case, it might be better to sell the stock in the future when their modified adjusted gross income is lower than the $250,000 threshold.
The Trump administration has floated a proposal to eliminate the NIIT and reduce the maximum long-term capital gains tax rate from 20% to 15%. If these proposals become law, they would give investors much greater flexibility to recognize capital gains without the adverse consequences hidden in the current tax rate structure. Investors should stay aware of tax legislation this year since the tax rates under the Tax Cuts and Jobs Act will expire at the end of 2025.
For additional reading, see:
https://www.financedevil.com/will-trump-reduce-capital-gains-tax/?form=MG0AV3&form=MG0AV3
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