Is The 3.8% Investment Tax for High-Incomes Here to Stay?

Here’s what you need to know.

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If you are single with a gross income of $200,000 or married filing jointly earning $250,000, you will most likely be hit by two new taxes in 2013. These are both Medicare taxes which were a result of the 2010 Health Care Acts that were upheld by the Supreme Court this summer.

The first is very simply an additional 0.9% tax on wages and self-employment income over the thresholds. The second is a 3.8% surtax on investment income that exceeds the $200,000/$250,000 modified adjusted gross income (MAGI) levels. MAGI equals foreign income plus regular adjusted gross income (AGI).

Here’s how the latter works. The 3.8% is applied to the lesser of 1) MAGI over the threshold or 2) net investment income. For example, a couple filing jointly with MAGI of $400,000 and net investment income of $50,000, would have the 3.8% surtax applied to the $50,000 investment income. The $50,000 is less than the difference between $400,000 and $250,000 (or $150,000).

The combined additional tax in this example would be approximately $5,500, by adding $1,900 ($50,000 * 3.8%) and $3,600 ($400,000 * 0.9%).

Investment income includes capital gain, dividends, interest, passive rental income, and annuities.

What’s NOT investment income: municipal bond interest, wages, self-employment income, Social Security benefits, and IRA withdrawals are the major ones.

What you may want to do:

  • Sell assets with capital gains now to avoid the additional tax in 2013 (check if long or short-term)
  • Accelerate income from self-employment or rents to have them occur in 2012
  • Increase salary deferrals in 2013 (will help avoid the 3.8% tax but not the 0.9% tax)

In summary, you need to know if you will be affected by these new taxes so you can plan ahead. There will likely be other changes in the tax rules and tax rates announced in the next few months, so check our company blog regularly for future updates.

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