Investment Income Surtax for High Earners Is on the Way

Consider shifting fixed-income investments to tax-exempt municipal bonds, since income from munis is not considered net investment income for surtax purposes.















As part of the Patient Protection and Affordable Care Act, a 3.8% surtax on investment income is scheduled to go into effect in 2013. The surtax will apply to single filers with a modified adjusted gross income (MAGI) of $200,000 or more and to joint filers with a MAGI of $250,000 or more.

The tax will apply to “net investment income,” which includes interest, dividends, royalties, annuities, rents, and other passive activity income, capital gains from the sale of property (not used in an active trade or business), and trading of financial instruments and commodities.

Importantly, “net investment income” does not include distributions from IRAs or qualified retirement plans, annuity payouts, or income from tax-exempt municipal bonds, among other items.

If you think the new tax could impact you, here are some planning suggestions you’ll want to consider:

  • If you are retired, look for ways to maximize your income from IRAs or qualified retirement plans in 2013 and beyond, since these are not subject to the surtax. If you are not retired, contribute as much as you can to your qualified plan, since income from these “qualified” assets is not subject to the surcharge when you begin taking distributions in retirement.
  • Consider selling highly appreciated assets this year. If you expect to report a big gain from the sale of a personal residence (net of the $250,000 per person exclusion for properties held longer than one year) or other asset, you might want to do it in 2012. Such a gain would be considered investment income and would also push your MAGI over the surtax threshold.
  • Consider shifting fixed-income investments to tax-exempt municipal bonds, since income from munis is not considered net investment income for surtax purposes. But be aware that not all municipal bonds necessarily qualify for the exemption and some may also trigger the alternative minimum tax (AMT).
  • If you have a traditional IRA, consider converting it to a Roth IRA. Distributions from Roth IRAs are not taken into account when analyzing the income thresholds for the surtax, nor are the distributions considered net investment income. Although payouts from traditional IRAs are exempt from the surtax, they are taxable, therefore causing your MAGI to rise, and possibly triggering the surtax on your investment income after 2012. Of course, you should also factor in your decision the amount you would owe in tax as a result of the conversion.

Keep in mind that a number of tax rules are currently scheduled to change after December 31, 2012, unless Congress acts to extend them. So it’s wise to work with a qualified tax professional before taking any action.

This information is not intended to be legal or tax advice and should not be treated as such. Each individual’s tax situation is different. You should contact your tax professional to discuss your personal situation.




Because of the possibility of human or mechanical error by S&P Capital IQ Financial Communications or its sources, neither S&P Capital IQ Financial Communications nor its sources guarantees the accuracy, adequacy, completeness or availability of any information and is not responsible for any errors or omissions or for the results obtained from the use of such information. In no event shall S&P Capital IQ Financial Communications be liable for any indirect, special or consequential damages in connection with subscriber’s or others’ use of the content.

© 2012 S&P Capital IQ Financial Communications. All rights reserved.

photo by: 401(K) 2012
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