Private Client Tax Update – December 2014
Déjà Vu All Over Again
In last year’s letter, we referred to the attempts by the administration and Congress to reform the Tax Code. Here we are, a year later, and no reform has occurred. Beginning in January 2015, the Republicans will control both houses of Congress. Perhaps this will be the environment to allow tax reform to happen; perhaps not. Stay tuned.
Planning and Tax Developments
Net Investment Income Tax and Medicare Tax. As you are likely aware, the Net Investment Income Tax was assessed for the first time in 2013. The Net Investment Income Tax is a 3.8% tax imposed on the lesser of “Net Investment Income” of individuals, trusts, and estates, or the excess of the taxpayer’s modified Adjusted Gross Income over a certain threshold amount. This year, there were a few unexpected results to the imposition of the Net Investment Income Tax, which provides taxpayers planning opportunities to reduce or eliminate the additional tax entirely.
“Net Investment Income” includes interest, dividends, capital gains, rental and royalty income, passive income, and some non-qualified annuities. Expenses are allowed to be deducted against the income before the tax is calculated. The expenses allowed against Net Investment Income are investment interest expenses, state and local income taxes paid on the Net Investment Income, and miscellaneous investment expenses. As with miscellaneous expenses deducted against regular Federal Income Tax, the expenses must surpass the 2% Adjusted Gross Income threshold. Only the excess expenses above 2% are deductible against both Federal Income Tax and Net Investment Income Tax. Taxpayers who are in Alternative Minimum Tax (AMT) are not permitted to take the deduction for miscellaneous expenses. However, the disallowed expenses may still be taken against the Net Investment Income regardless of the AMT disallowance. Taxpayers may be able to plan their allowed expenses to coincide with years of higher Net Investment Income and reduce the overall impact of the 3.8% tax.