Investment Updates
Beware The NII Surtax On Trusts
Published Monday, March 24, 2014 at: 7:00 AM EDT
Tax experts have warned that the new 3.8% Medicare surtax--which applies to "net investment income" (NII)--can be a formidable tax obstacle for upper-income investors. But the NII tax isn't just a concern for individual taxpayers. It also may affect trusts and estates. In fact, the overall impact on estates and trusts with substantial annual income might be even greater than the tax sting felt by wealthy individuals.
First, let's review the basic rules. For 2013 and thereafter, you must pay the 3.8% Medicare surtax on the lesser of your NII or your modified adjusted gross income (MAGI) above an annual threshold—$200,000 for single filers and $250,000 for joint filers. For this purpose, NII is defined to include interest, dividends, capital gains, rents, royalties, nonqualified annuities, income from passive activities, and income from trading financial instruments or commodities. However, certain items—such as wages, self-employment income, Social Security benefits, tax-exempt interest, operating income from a non-passive business, and distributions from IRA and qualified retirement plans—are excluded from the definition of NII.
But the 3.8% Medicare surtax also applies to trusts and estates. In this case, the dollar threshold for single or joint filers is replaced by the dollar figure that begins the top tax rate for trusts and estates. For example, if all of the trust income is NII and the undistributed net investment income exceeds the dollar threshold by $10,000, the trust must pay a Medicare surtax of $380 (3.8% of $10,000).
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