Written by Chris Norwood, NAI Norwood Group
We
have all heard the bit about Death and Taxes. However a closer look into the
tax code will reveal an interesting new tax that has been enacted in 2013. This
new tax, on investment income, is often misunderstood as a result of it being
misrepresented and also as a result of that it is downright confusing. So here is a quick glance at what the new tax
is and what it is not.
Net
Investment Income Tax (NIIT):
IS
NOT… a transfer tax – while you may end up paying the tax as a result of
selling a property, it does not come out of the sales proceeds at the time of
transfer.
IS
NOT… just for real estate – all investment that you collect passively could be
subject to this tax (rents, capital gains, stocks etc).
So
what is the NIIT and what is taxable? The net investment income broadly
speaking is a tax on passive income in the amount of 3.8%. However there are
many thresholds and other factors.
Here
is where it becomes a bit tricky to find out exactly how much of your income is
subject to the tax. Using the words of the IRS, “The
NIIT applies at a rate of 3.8 percent to certain net investment income of
individuals, estates and trusts that have income above the statutory threshold
amounts.” A table of all of the threshold amounts can be found: http://www.irs.gov/uac/Newsroom/Net-Investment-Income-Tax-FAQs.
What becomes taxable is the lesser of the amount of income over
your threshold amount OR your Net Investment Income. Again quoting the IRS:
Taxpayer,
a single filer, has $180,000 of wages. Taxpayer also received $90,000 from a
passive partnership interest, which is considered Net Investment Income.
Taxpayer’s modified adjusted gross income is $270,000.
Taxpayer’s
modified adjusted gross income exceeds the threshold of $200,000 for single
taxpayers by $70,000. Taxpayer’s Net Investment Income is $90,000.
The Net
Investment Income Tax is based on the lesser of $70,000 (the amount that
Taxpayer’s modified adjusted gross income exceeds the $200,000 threshold) or
$90,000 (Taxpayer’s Net Investment Income). Taxpayer owes NIIT of $2,660
($70,000 x 3.8%).
Logistics
of the law aside, where this can really come into play are one time large gains
yielded form the sale of a building. For investors with smaller portfolios and
personal income well below the threshold amounts, this may not affect them;
however for investors selling a property with a low basis, the tax could be triggered.
It is
important that all investors talk with their accountants prior to selling a
property to understand the tax ramifications. However we advise you also to
discuss with your accountants the tax liabilities from you passive rents as
well to understand the full effects this tax may carry.
