Net Investment Income Tax

What is Net Investment Income Tax?

Net Investment Income Tax (NIIT) is a 3.8% tax on net investment income. It applies to those investors who have income from their portfolio of investment assets and whose modified adjusted gross income (MAGI) surpasses a certain threshold.

For the purposes of NIIT, modified adjusted gross income is a taxpayer’s adjusted gross income (AGI) increased by the foreign-earned income exclusion and also adjusted for certain foreign-earned, income-related deductions.

Investors who are subject to net investment tax will pay the 3.8% tax on the lesser of the following:

• The net investment income they received
• The amount by which their MAGI surpasses the statutory threshold amount based on their filing status.

As outlined by the IRS, net investment income usually does not include wages, Social Security benefits, unemployment compensation, alimony, and most self-employment income. In addition, net investment income does not include gains on the sale of a personal residence excluded from gross income for regular income tax purposes.

What is the purpose of Net Investment Income Tax?

The Net Investment Income Tax, part of the Health Care and Education Reconciliation Act of 2010, aims to help fund healthcare reform.

The tax ultimately went into effect on January 1, 2013, affecting the income tax returns of certain individuals — as well as certain estates and trusts — who have net investment income above applicable threshold amounts. NIIT is separate from the 0.9% Additional Medicare Tax, which also went into effect on January 1, 2013.

What is included in Net Investment Income Tax?

Depending on a taxpayer’s modified adjusted gross income, Net Investment Income Tax applies to net investment income that includes:

• Taxable interest
• Rental and royalty income
• Dividends — qualified and non-qualified
• Capital gains — short- and long-term
• Business income from trading financial instruments or commodities
• Passive income from investments not actively participated in 
• Non-qualified annuities — the taxable portion of the investments

When did Net Investment Income Tax go into effect?

Net Investment Income Tax went into effect on January 1, 2013. The tax is part of the Health Care and Education Reconciliation Act of 2010, signed by President Obama on March 30, 2010.

To provide additional background, the Affordable Care Act (ACA) became law in two stages:

• The Patient Protection and ACA was signed into law on March 23, 2010
• The Health Care and Education Reconciliation Act amended ACA on March 30, 2010.

Who is subject to Net Investment Income Tax?

Individuals, estates, and trusts with net investment income above applicable threshold amounts are subject to Net Investment Income Tax.

Individuals. The amount is 3.8% on the lesser of:

• The net investment income.
• The excess of modified adjusted gross income over the threshold amounts. The NIIT thresholds are $250,000 for married filing jointly or qualifying surviving spouse, $125,000 for married filing separately, or $200,000 for single or head of household.

It is important to note that, in general, net investment income includes, but is not limited to:

• Net gains from the sale of a passive partnership or S corporation ownership interests
• Qualified dividends and non-qualified dividends, interest, certain annuities, royalties, and rents
• Income derived in a trade or business that is a passive activity or trading in financial instruments or commodities
• Net gains from the disposition of property such as mutual funds, bonds, stocks, and real estate, other than property held in a trade or business to which the NIIT does not apply

Estates and trusts. The amount is 3.8% on the lesser of:

• The undistributed net investment income.
• The excess — if any — of the adjusted gross income over the dollar amount at which the highest tax bracket begins for an estate or trust for the tax year. For estates and trusts, the 2024 threshold is $15,200. The estate or trust is not subject to NIIT if the adjusted gross income is below $15,200.

Are all estates and trusts subject to Net Investment Income Tax?

Not all estates and trusts are subject to Net Investment Income Tax. For starters, estates and trusts must have both undistributed net investment income and AGI that surpasses the threshold for the highest income tax bracket — the threshold for 2024 is $15,200 — to be subject to the net investment tax.

If an estate or trust has no undistributed net investment income, they are not subject to the tax, regardless of their AGI.

Furthermore, several types of trusts are not subject to Net Investment Income Tax, as the IRS outlines. These include:

• Trusts that are exempt from income taxes
• Grantor trusts
• Trusts that are not classified as trusts for federal income tax purposes, for example, real estate investment trusts and common trust funds
• Perpetual Care (Cemetery) trusts 
• Electing Alaska Native Settlement Trusts.

How do you calculate Net Investment Income Tax?

To calculate the Net Investment Income Tax, first determine if the taxpayer has net investment income subject to the tax. Then, check whether the modified adjusted gross income surpasses the NIIT threshold based on their filing status. If the answer is yes to both, then you can calculate the tax. 

To demonstrate how to calculate the tax, consider the following example provided by the IRS.

An individual taxpayer earns $180,000 in wages. They’ve also received net investment income from a passive partnership interest that totals $90,000. Therefore, the taxpayer’s modified adjusted gross income totals $270,000.

In this scenario, the taxpayer’s modified adjusted gross income exceeds the NIIT threshold of $200,000 for a single taxpayer by $70,000.

The NIIT is then based on the lesser of the two — $70,000, the amount that the taxpayer’s modified adjusted gross income exceeded the $200,000 threshold, or $90,000, the taxpayer’s net investment income from the passive partnership interest. In this case, the taxpayer owes $2,660 in net investment taxes, based on the lesser amount of $70,000: $70,000 x 3.8% = $2,660.

For computing the NIIT, use Form 8960, Net Investment Income Tax—Individuals, Estates, and Trusts. If the modified adjusted gross income is greater than the applicable threshold amount, attach the completed form to the taxpayer’s tax return.

How do you report and pay Net Investment Income Tax?

• Individuals must report and pay Net Investment Income Tax on Form 1040, U.S. Individual Income Tax Return, or, for those aged 65 or older, on Form 1040-SR, U.S. Tax Return for Seniors. The due date for filing federal individual income tax returns is generally April 15 each year. If the due date falls on a Saturday, Sunday, or legal holiday, the due date moves to the next business day.
• Estates and trusts must report and pay NIIT on Form 1041, U.S. Income Tax Return for Estates and Trusts. Calendar year estates and trusts must file Form 1041 on or before April 15 of the following year. Fiscal year estates and trusts must file Form 1041 by the 15th day of the fourth month following the close of the tax year. For example, if the tax year for an estate ends on June 29, 2025, the form must be filed by October 15, 2025. If the due date lands on the weekend or a legal holiday, the form can be filed on the next business day.

To report the tax, individuals and estates or trusts should first compute it using Form 8960, Net Investment Income Tax—Individuals, Estates, and Trusts. If the modified adjusted gross income is greater than the applicable threshold amount, attach Form 8960 to the tax return.

Can you avoid Net Investment Income Tax?

A taxpayer can avoid Net Investment Income Tax if they can offset net income so that it falls below the applicable threshold amount. Taxpayers can employ several tax strategies to reduce their chances of falling subject to the tax.

One of the most common strategies to reduce a taxpayer’s taxable income so that it falls below the applicable threshold amount is to make contributions to pre-tax accounts like a traditional IRA or 401(k).

Increasing the amount claimed for certain investment expenses, like trading fees or deductions for rental property maintenance, can also lower a taxpayer’s net investment income.

Another tax strategy is tax-loss harvesting. This strategy involves lowering a taxpayer’s taxable income by selling an investment at a loss. They can claim a tax deduction against ordinary income by writing off the losses on their investment.