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What is Net Investment Income Tax (NIIT)?

What is Net Investment Income Tax (NIIT)?

May 27, 2024

Net investment income tax (NIIT), also affectionately known as the ‘You-Make-A-Lot-of-Money Tax,’ involves the net investment income of individuals, estates, and trusts. According to the Wall Street Journal, more Americans than ever before could be owing this tax due to inflation and higher yields on bank accounts and bonds. The IRS defines NIIT as a surtax where individual taxpayers are liable for a 3.8 percent Net Investment Income Tax on the lesser of their net investment income or the amount by which their modified adjusted gross income (MAGI) exceeds the statutory threshold amount based on their filing status. What does that all mean?

Who has to pay this tax?

Generally speaking, if you earn Income from sources like capital gains, interest, and dividends and you earn over a specified amount of money, you have to pay, depending upon whether you are married or not. Due to one-time income spikes, the government can even reach into your pocket if you earn less than the recurring threshold amount (listed below).

How does it work?

First, you must calculate your net investment income (NII) and MAGI. Next, you compare your MAGI to the applicable threshold that year. The excess of the MAGI and the threshold is the number you use to determine whichever is less, the NII or the excess of the MAGI and the threshold, and that number is then multiplied by 3.8% to give you your NIIT. It is complicated, and everybody’s circumstances differ, so getting help from a financial professional is highly encouraged. It’s like bobbing for apples. Once you get the technique down, it isn’t so bad.

The statutory threshold amounts are:

  • Married filing jointly — $250,000,
  • Married filing separately — $125,000,
  • Single or head of household — $200,000, or
  • Qualifying widow(er) with a child — $250,000.

How to figure out your net investment income (NII)

Net investment income includes but is not limited to interest, dividends, capital gains, rental and royalty income, and non-qualified annuities.

The calculation excludes wages, unemployment compensation, Social Security Benefits, alimony, and most self-employment income.

How to calculate your modified adjusted gross income (MAGI)

Your MAGI is your AGI with deductions added back, such as employer adoption benefits, student loan interest, educator expenses, foreign-earned income, and housing exclusions. Your MAGI may be an important figure for you as it is used to analyze your taxable income and qualify for specific tax deductions and credits. Figuring out your MAGI is a process that generally involves three steps.

  1. Gross income = Income from all sources of income
  2. Adjusted gross income (AGI) = gross income – adjustments or payments such as alimony, student loan interest, health savings account contributions, and retirement contributions.
  3. Add back Adjustments = Expenses the taxpayer paid for with income the government doesn’t think should be taxed, such as student loan interest, one-half of self-employment tax, IRA contributions, qualified tuition expenses, etc.

** Keep in mind that taxpayers with income from controlled foreign corporations and passive foreign investment companies may have additional adjustments to their AGI.

How are estates and trusts subject to NIIT?

Estates and trusts become subject to NIIT when they have undistributed Net Investment Income and adjusted gross income over the dollar amount at which the highest tax bracket for an estate or trust begins for the taxable year. For 2024, this number is $15,200.

Consult your financial professional

The world of taxes is complex and stressful. It is not uncommon for taxpayers to make mistakes or poor financial decisions that can leave money on the table or create problems down the road. Consider consulting your financial professional to help you navigate the complex world of finance and the ever-changing economic landscape and often volatile market. The decisions you make can impact you now and in the future. A financial professional can address numerous financial concerns and help mitigate risks or unforeseen obstacles that may arise.

 


Important Disclosures:

This material was created for educational and informational purposes only and is not intended as tax, legal or investment advice. If you are seeking investment advice specific to your needs, such advice services must be obtained on your own separate from this educational material.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Sources:

File your taxes for free | Internal Revenue Service (irs.gov)

You’ve Been NIIT-Picked! This Tax on Investments Is Hitting More Americans - WSJ

Here's who qualifies for free tax filing through the IRS this season (cnbc.com)

Modified Adjusted Gross Income: What Is MAGI, How to Calculate - NerdWallet

Questions and Answers on the Net Investment Income Tax | Internal Revenue Service (irs.gov)

Last-Minute Tax Filing Tips – Forbes Advisor

Last Minute Tax Tips 2024 (linkedin.com)

Tips for Last-Minute Filers (irs.gov)

A Guide to the Net Investment Income Tax (NIIT) | SmartAsset

 

This article was prepared by LPL Marketing Solutions

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