Calculating Your Net Investment Income Tax

Calculate your net investment income tax

What is Net Investment Income Tax?

If you have taxable income over $200K, you may need to calculate net investment income tax when you prepare and file your tax return. This tax, which is a 3.8% surtax on the lessor of the total net investment income or the excess of modified adjusted gross income (MAGI) over IRS-specified thresholds, may apply even if your investment income is otherwise not subject to significant income taxation.[i] For the 2020 tax year, the threshold amounts are $250,000 for married taxpayers filing jointly or qualifying widow(er), $125,000 for married taxpayers filing separately, and $200,000 for single taxpayers, those filing as heads of household, and all other taxpayers.[ii] Estates, trusts, and business entities may also be subject to the Net Investment Income Tax.

How to Calculate Your Net Investment Income Tax

If you have net investment income for the tax year and if your MAGI exceeds the thresholds for the year, you must calculate your tax liability. IRS Form 8960 can be used to calculate this tax.[iii]

Step 1. Determine your MAGI. Your MAGI is your adjusted gross income plus certain deductions including but not limited to IRA contributions, taxable Social Security benefits, passive loss or passive income deductions, self-employment tax deduction, tuition and fees, student loan interest, and qualified tuition payment deductions, rental losses, and losses from publicly-traded partnerships.[iv] If your MAGI exceeds the thresholds identified above, continue with step 2.

Step 2. Calculate gross investment income. Start by calculating your gross investment income including income from long-term or short-term capital gains, qualified or non-qualified dividend income, taxable interest, rental income, royalty income, passive business profits, the taxable portion of nonqualified annuity payments, and certain other types of investment income. Do not include wages, unemployment payments, self-employment income, social security benefits, retirement plan distributions, tax-exempt interest, operating income from non-passive businesses, alimony, or excluded capital gains from the sale of a primary residence.[v]

Step 3. Subtract eligible deductions. Next, you can subtract certain deductions from gross investment income to reach your net investment income. These may include brokerage fees, tax preparation fees, investment advisory fees, fiduciary expenses, investment interest expenses, state and local income taxes, and costs related to rental income or royalty income.[vi] The number you arrive at after deducting eligible deductions is your net investment income.

Step 4. Determine tax liability. Your net investment income tax liability is 3.8% of the lesser of your net investment income, as calculated in step 3, or the portion of your MAGI that exceeds the IRS threshold amounts.[vii] For example, if your MAGI exceeded the threshold by $100,000 and you had $50,000 in net investment income, you would only owe net investment income tax on the $50,000 of net investment income.

Step 5. Determine whether estimated tax payments were sufficient. Net investment income tax is subject to the estimated tax payment rules, meaning that investors who expect to owe this tax must make estimated payments throughout the tax year.[viii] If your actual tax owed is greater than your estimated amount, you must make up the difference when filing your tax return. Note that failing to pay enough in estimated taxes could subject you to IRS penalties.[ix]

Important Disclosures

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

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.

This information is not intended to be a substitute for specific individualized tax or legal advice. We suggest that you discuss your specific situation with a qualified tax or legal advisor.

LPL Financial Representatives offer access to Trust Services through The Private Trust Company N.A., an affiliate of LPL Financial.

[i] https://www.irs.gov/newsroom/questions-and-answers-on-the-net-investment-income-tax

[ii] https://www.irs.gov/taxtopics/tc559

[iii] https://www.irs.gov/forms-pubs/about-form-8960

[iv][iv] https://www.thebalance.com/net-investment-income-tax-3192936

[v] https://www.irs.gov/pub/irs-pdf/i8960.pdf

[vi] https://www.irs.gov/individuals/net-investment-income-tax

[vii] https://www.investopedia.com/terms/n/netinvestmentincome.asp

[viii] https://www.irs.gov/individuals/tax-withholding-estimator

[ix] https://www.irs.gov/newsroom/give-withholding-and-payments-a-check-up-to-avoid-a-tax-surprise

Sources

https://www.irs.gov/newsroom/questions-and-answers-on-the-net-investment-income-tax