Medicare Contribution Tax on Net Investment Income

Tax Professionals' Resource
January 13, 2014 — 1,957 views  
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A Medicare surtax came into existence early this year at 3.8% on net investment income. The tax provision began as early as 2010 with the health care legislation, Obamacare, for unearned Income Medicare Contribution. As per this levy, a 3.8% tax is applicable on various forms of investments. The tax is applicable to trusts, estates and also to individuals.

The new tax has been known by several different names such as the 3.8% investment tax or the 3.8% tax and many other names. However, what you need to know is that these contributions are not directly designated to be used in the Medicare Trust Fund. As a result, before understanding how this tax can affect a particular investment type, it is very important to understand what this tax is.

Understanding the Medicare Surtax

The new Medicare tax of 3.8% has been outlined under the IRC Section 1411 and Chapter 2A. The IRS has also released some proposed regulations that help the taxpayers who are affected by this new law. This document was made available for public examination throughout this year and was subjected to comments and revisions. The final regulations are due to be released by the end of this year and the taxpayers would be required to rely upon the regulations currently proposed to determine their 3.8% Surtax.

The Code Section 1411 has been divided into four main parts. These include the general definition of the terms involved, exceptions and other special situations, calculation of the 3.8% surtax for estates and trusts and calculation of the 3.8% Medicare surtax for individuals.

Calculation of Medicare Surtax for trusts and estates

The calculation of Medicare Surtax for estates and trusts is dependent on two factors: adjusted gross income of the estate or the AGI and the undistributed net investment income of the estate or the UNII. The AGI is first reduced by a fixed threshold as per the conditions set forth by the IRS and then it is compared to the UNII. The lesser of the two incomes is them multiplied by 3.8% and the surtax is determined for the taxable year. This threshold is adjusted every year based on several external factors.

Calculation of Medicare Surtax for Individuals

Like the calculation for estates and trusts, the Medicare tax calculation for individuals is also dependent on two factors: This includes the modified adjusted gross income or the MAGI and the net investment income or the NII. To calculate the 3.8% surtax, the MAGI is first reduced as per the fixed threshold prescribed by the IRS. This amount is then compared to the NII and the surtax of 3.8% is applied to the lesser of the two amounts. This implies that the tax could be very minimal to those individuals who have very little amounts of investment income. The thresholds for reducing the MAGI are fixed in the case of Medicare surtax for individuals as opposed to that of estates and trusts. The threshold is at $250,000 for married couples who are filing jointly, 125,000 for couples filing separately and $200,000 for others.

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