Contact Us
Firm Overview
Why Legend Is Different
Client Types
Professional Biographies
Frequently & Rarely Asked Questions
Risk Spectrum
Investment Strategies
Second Opinion
Global Investment Pulse
Event Calendar
Press Center
Legend News
Clients Only
Career Opportunities
Newsletter Sign-up
Site Search
Site Map
Tell A Friend About This Website
Financial Briefs


Phone: (412) 635-9210
  (888) 236-5960
Connect With Legend:
Subscribe to me on YouTube

New Regulations Fill In Gaps On 3.8% Surtax

The tax landscape is changing dramatically in 2013.  One potential pitfall is the advent of the new 3.8% Medicare surtax authorized by the 2010 Affordable Care Act.  The surtax is tacked on to any regular income tax you owe on investment transactions.

At the end of 2012, the IRS issued proposed regulations explaining the rules for the surtax.  The new regulations, plus answers to frequently asked questions (FAQs) posted on the IRS website, can help fill in the gaps left by the legal language of the legislation.

Basic rules:  Beginning in 2013, a 3.8% Medicare surtax applies to the lesser of “net investment income” (NII) or the amount by which your modified adjusted gross income (MAGI) exceeds a threshold amount.  The threshold is $200,000 for single filers and $250,000 for joint filers.  These figures aren’t adjusted for inflation.  For example, if you’re a joint filer and have annual NII of $100,000 and a MAGI of $225,000, you owe no surtax.  However, if your MAGI increases to $300,000 next year and your NII stays the same, you’ll owe a surtax of $1,900 (3.8% of the $50,000 above the MAGI threshold, which is less than 3.8% of your $100,000 NII). 

For an estate or trust, the surtax is levied on the lesser of undistributed NII or the adjusted gross income (AGI) above the beginning dollar amount of the highest tax bracket for trusts and estates.  Due to the relatively compressed tax brackets for trusts and estates, this could have an even greater impact than the surtax on individuals.

NII is defined to include interest, dividends, capital gains, rents, royalties, nonqualified annuities, income from passive activities, and income from the trading of financial instruments or commodities.  Conversely, the NII definition specifically excludes certain items, including wages, self-employment income, Social Security benefits, tax-exempt interest, operating income from a non-passive business, and distributions from qualified retirement plans. 

To arrive at NII, gross investment income is reduced by deductions that may apply.  According to the FAQs on the IRS website, a few examples are investment income expenses, advisory and brokerage fees, expenses related to rental and royalty income, and state and local income taxes related to items included in NII.  The new regulations also clarify the following points. 

Gains:  Unless otherwise provided, a gain that is not recognized under other tax code sections doesn’t count towards the 3.8% Medicare surtax, either.  This includes gain deferred in an installment sale, gain from like-kind exchanges or involuntary conversions, and gain from the sale of a principal residence up to the exclusion amount ($250,000 for single filers and $500,000 for joint filers).

Estates and trusts:  The surtax applies to ordinary trusts. Although it does not apply to business trusts or common trust funds, it may apply to pooled income funds.  The tax doesn’t apply to tax-exempt trusts, even if the trust is taxed on unrelated business income.  Similarly, it doesn’t apply to grantor trusts, although grantor trust income is treated as received directly by the grantor and may be taxable.  While a charitable remainder trust isn’t subject to the surtax, distributions to an income beneficiary may be considered NII (equal to the lesser of trust distributions or the current and accumulated NII of the trust).  Generally, foreign estates and trusts aren’t subject to the surtax.

NII items:  Items normally considered NII, such as dividends or interest, are not treated as NII if derived in the ordinary course of a trade or business.  But this exception requires that the business not be a passive activity or consist of trading in financial instruments or commodities.  For a sole proprietor, this test applies at the individual level.  For a taxpayer owning an interest in a pass-through entity such as an S corporation or partnership, the passive activity test is applied at the taxpayer level, but the financial trading test is applied at the entity level.

Although the new regulations provide some clarity, proceed with caution.  Certain types of income that are not included in NII under a particular provision may still be swept in under other rules.  For example, rents escaping inclusion under the exception to the passive activity rules may be subject to NII if the rental income isn’t derived in the ordinary course of a trade or business. Moreover, this is doubtless not the final word on the subject, so be on the lookout for further updates.

This article was written by a professional financial journalist for Legend Financial Advisors, Inc. and is not intended as legal or investment advice.

  • Everything You've Learned About Interest Rates May Be Wrong
  • Inflation: A Portfolio Risk That Never Dies
  • Understanding Economic Fundamentals
  • A Bright Outlook For Consumer Spending
  • Six Tips To Avoid Phishing Scams
  • Seven Steps To Protect Yourself After Data Breach
  • Dynasty Trusts: The Gift That Just Keeps On Giving
  • Getting A High Tax Grade For Higher Education Credits
  • How Social Earnings Taxation Has Changed
  • Why Aren't More Millennials Moving On Up And Out?
  • Taking Socially Responsible Investing To The Next Level
  • Don't Be Caught Red-Handed By The Wash Sale Rule
  • Leading Economic Indicators Hit 10-Year High
  • Avoid These 6 Mistakes In Stretch IRA Planning
  • More Flexibility Allowed In Flex Spending Accounts
  • Individual Bonds-Ugh!
  • Set Aside The Funds One Might Need For A Rainy Day
  • Protect Against Possible Terrorist Attack
  • U.S. Leading Economic Indicators Rose Again
  • Fed Chair Strikes A More Cautious Tone, But Still Expects Moderate Growth
  • Count Off 3 Tax Breaks For Higher Education
  • Don't Be Victimized By These 10 Common Scams
  • Retirement Plan Choices For The Self-Employed
  • New Law Says Tax Debtors May Lose Their Passports
  • Compare Minor's Account To 529 Plan
  • Are You Being Socially Responsible?
  • 8 Smart Moves For College Grads
  • Seeking Financial Aid: Don't Fear The FAFSA
  • New Baby? Consider An Education Savings Plan
  • 3 Ways To Deduct Mortgage Interest
  • Understanding Deflation
  • Don't Play Up Super Bowl Outcome In Stock Decisions
  • When Should Millennials Start Retirement Saving?
  • Have Your Child Kick Into A Roth With A Reward To Boot
  • Sizing Up The Energy Boost To The Economy
  • A Stock Plunge Amid Strong Economic Data
  • 14 Top Year-End Tax Moves For Individuals In 2014
  • Drill Down For Three Key Oil And Gas Tax Breaks
  • When It Pays To ID Security Sales
  • GDP Growth Data Masks Strength Of The Recovery
  • Be On The Lookout For Crimes Involving An Elder Fraud
  • S&P 500's New All Time High Wednesday Will Probably Continue Over Upcoming Months, But Other Indexes Are Struggling
  • U.S. Stock valuations are within the top 10 valuations of all time but probably won't crash. Why?
  • Seven Steps To Digging Your Way Out Of Deep Debt
  • 5 Steps To Protect The Digital Assets You Own
  • The Long-Term Fiscal Status Of The United States
  • Margin Debt At Record Levels
  • What To Do When You're Suddenly Widowed
  • A Common Error In Powers Of Attorney
  • Should You Move To A Different State?
  • Tax Cost Of Being Your Own Landlord
  • Why Do GRATs Remain In Such High Demand?
  • Don't Wait To Harvest Your Losses
  • The Best States To Move To For Tax Purposes
  • 10 Reasons For The IRS To Flag Your Return
  • Many Women Face Special Challenges As Retirement Nears
  • Nine Reasons To Consolidate Debt
  • Straight Talk About Living Trusts
  • SEPPs From An IRA: Don't Change Horses Midstream
  • New Regulations Fill In Gaps On 3.8% Surtax
  • Do You Know Life Insurance Basics?
  • Top Income-Earners Drive U.S. Economic Growth
  • Give IRA Cash To Charity: Heads You Win, Tails You Win
  • Four Wash Sale Strategies To Help Clean Up Taxes
  • College Savings: How Much Do You Need Each Month?
  • Surprising New Research: Large Caps Top Small Caps
  • Newly Widowed Face 401(k), IRA Options
  • Retirement Saving Takes Time And Must Be A Priority
  • Divide-Conquer To Convert To Roth IRA
  • What Is Probate And What Does It Protect?
  • A Research Surprise On Bond Funds
  • After New Tax Law, Do You Still Need A Bypass Trust?
  • Start Estate Planning For Your Child Now
  • Seven Tax Ideas To Use Throughout The Year
  • A Comprehensive Way To Plan For College Savings
  • Bulletproofing Your Will Before Death
  • IRS Mercy on 60-Day IRA Rollover Error
  • Feds Warn Of Life Settlement Dangers
  • Know The Tax Rules On Charitable Gift Deductions
  • IRS Ruling Boosts IDTs as Estate Planning Technique
  • A Defined Benefit Plan Lets You Sock Away Large Amounts If You Can Overcome Some Obstacles
  • Economic Shifts Bring New Pitfalls And Prizes
  • Evaluating Great Companies
  • Inflation Versus Deflation
  • Jeremy Grantham And Lou Stanasolovich Discuss Market Valuations
  • Ramifications Of A Weakening Dollar
  • Secular Versus Cyclical Bear Markets
  • Small Business And Work Opportunity Tax Act
  • Time To Plan For Estates, Wills, & Trusts

  • ©2018 Legend Financial Advisors, Inc.®. All rights reserved.