Tax on Unearned Income

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Effective in 2013, some individuals will be subject to a new 3.8% medicare contribution tax on unearned income.  The new tax applied to single taxpayers with modified adjusted gross income over $200,000 and to married taxpayers filing jointly with MAGI over $250,000.  The unearned income to which the tax applies includes interest, dividends, annuities, royalties, rents, passive income and other net investment income.

Investors might want to consider tax-free bonds since the interest on these bonds is not subject to the new tax.  Investors might also want to consider insurance products since the inside build-up of life insurance cash value is not subject to the new tax.   Investors should also maximize investments inside qualified retirement plans and IRAs since income/gain inside these vehicles is not subject to the new tax.

Income received by an individual from a business is subject to the new tax if the business is a passive activity for the individual.  But don't forget, if the new tax applies because the business constitutes a passive activity, the individual would not be subject to self-employment tax on the same income since self-employment tax only applies to earned income.   Furthermore, if an "S" corporation owner actively participates in the business, he or she can avoid both the new tax and self-employment tax on the dividend distributions he or she receives from the "S" corporation.

This can be a bit complicated.  Call or email me to discuss at Jsenney@pselaw.com or 937-223-1130.