NIIT (Net Investment Income Tax)
Also known as: 3.8% Medicare surtax on investment income, Net investment income tax, ACA investment surtax
A 3.8% federal surtax on investment income for higher-income filers, enacted in 2013 to fund the Affordable Care Act. Applies on top of regular capital gains and dividend tax when modified AGI exceeds $200,000 (single) or $250,000 (married filing jointly). Thresholds are not indexed for inflation.
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The Net Investment Income Tax was enacted in the Health Care and Education Reconciliation Act of 2010 and took effect in tax year 2013. It is a 3.8% surtax that applies on top of the regular federal income tax rate on net investment income — defined as interest, dividends, capital gains, rental and royalty income, non-qualified annuities, and income from passive business activities. The NIIT applies only when the filer's modified adjusted gross income exceeds specific thresholds, and only to the lesser of (a) the net investment income or (b) the MAGI excess over the threshold. This 'lesser-of' calculation means a filer just above the threshold may pay NIIT on only a small portion of their investment income, while a filer well above the threshold pays NIIT on the full amount.
The MAGI thresholds are $200,000 for single and head-of-household filers, $250,000 for married filing jointly, and $125,000 for married filing separately. The structurally important fact about these thresholds is that they have NOT been indexed for inflation since enactment in 2013 — wage growth and inflation since then have pulled a steadily growing share of US households into NIIT exposure. A household earning $180,000 in 2013 was clearly below the single-filer threshold; the same household earning $230,000 a decade later (consistent with typical wage growth) is now subject to NIIT on investment income. This non-indexation is a feature, not an oversight; it was the design choice that made the ACA financing assumptions add up.
NIIT stacks on top of the regular capital gains rate, producing combined federal rates of 18.8% (15% LTCG + 3.8% NIIT) or 23.8% (20% LTCG + 3.8% NIIT) for higher-income filers realizing long-term gains. Short-term gains at top ordinary rates become 38.8% combined with NIIT. The surtax is computed on Form 8960 and added to the regular tax liability on Form 1040.
Planning around NIIT: above-the-line deductions (Schedule 1 Part II items like traditional IRA contributions, HSA contributions, and self-employed retirement plan contributions) reduce AGI, which reduces NIIT MAGI, which can pull a household back under the threshold. For a household near the threshold, a larger 401(k) contribution can save not just the marginal income tax on the contribution but also the NIIT exposure on the same income. Roth conversions and tax-loss harvesting do NOT reduce NIIT MAGI (the IRA contribution is the typical lever); rental real estate professional status under IRC § 469(c)(7) can reclassify rental income out of NIIT-applicable investment income.
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- AGI (Adjusted Gross Income) AGI is your total gross income for the tax year minus a specific set of statutory adjustments listed on Schedule 1 of Form 1040. It is the figure on which most tax calculations and eligibility tests downstream actually operate — not your gross income, not your taxable income.
- MAGI (Modified Adjusted Gross Income) MAGI is your AGI with specific deductions and exclusions added back in. The exact items added back depend on which tax provision is testing eligibility — there is no single universal MAGI. The two most commonly encountered versions are the IRA-deduction MAGI and the Premium Tax Credit MAGI.
- Capital gains tax rate Federal tax rates that apply to profits from selling assets held in a taxable account. Long-term gains (held >1 year) are taxed at preferential rates (0%, 15%, or 20% depending on income); short-term gains (≤1 year) are taxed as ordinary income at marginal brackets.
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