High-income taxpayers often face the burden of paying the Net Investment Income Tax (NIIT) in addition to their regular income tax. The NIIT is a 3.8% tax imposed on net investment income, but there are strategies available to help minimize its impact.
In this blog post, we will explore some effective ways to reduce the NIIT and potentially save on taxes.
Determining if you’re affected
The NIIT applies to individuals whose modified adjusted gross income (MAGI) exceeds certain thresholds. Here are the thresholds based on filing status:
- Married taxpayers filing jointly and surviving spouses: $250,000
- Married taxpayers filing separately: $125,000
- Unmarried taxpayers and heads of household: $200,000
Understanding the tax calculation
The amount subject to the NIIT is the lesser of your net investment income or the excess of your MAGI over the applicable threshold. Net investment income includes interest, dividends, annuities, royalties, rental income, and certain passive business income. However, there are exceptions, such as tax-exempt interest, gain from the sale of a primary residence, distributions from qualified retirement plans, Social Security benefits, wages, and self-employment income.
Strategies to minimize the NIIT
1. Shifting investments
If your income is high enough to trigger the NIIT, consider reallocating some income investments to tax-exempt bonds. By doing so, you can lower your MAGI and avoid the NIIT. Dividend-paying stocks are subject to higher taxation due to the NIIT, so rebalancing your portfolio to focus on growth stocks can be advantageous. Capital gains from growth stocks are deferred until the stocks are sold, and they can be offset by capital losses.
2. Maximizing retirement plan distributions
Distributions from qualified retirement plans are exempt from the NIIT. If you have control over your retirement savings, such as being a small business owner, consider making greater use of qualified plans to reduce your net investment income. This strategy allows you to benefit from the tax exemption and potentially lower your overall tax liability.
Exploring additional strategies
Apart from the above-mentioned strategies, there are other tactics you can employ to minimize the NIIT. These include making moves related to charitable donations, passive activities, and rental income. Each taxpayer’s situation is unique, so it’s essential to consult with a tax professional who can provide tailored strategies based on your circumstances.
High-income taxpayers can take proactive steps to reduce the impact of the Net Investment Income Tax. By employing strategies such as shifting investments, maximizing retirement plan distributions, and exploring additional options, you may be able to minimize your net investment income and potentially save on taxes. Please consult with a Wegner CPA’s tax advisor to develop a comprehensive tax planning strategy tailored to your specific needs and goals. Take control of your tax situation and explore these strategies to mitigate the effects of the NIIT.