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The 3.8% Surtax on Unearned Income

Posted on April 7, 2010 by Leasa Magnuson in Individual Tax

The 2010 Healthcare Act has generated a lot of questions. Over the course of the next few weeks I thought I would share with you some of the questions that I have been asked and the answers I have found. This week I was asked the definition of “unearned income” and how it applies to the 3.8% surtax levied to help pay for insuring all of America.

My initial thought was unearned income is usually dividends and interest, but the first place I looked to confirm this thought included the word “investments”. Investments to me mean rental real estate and partnerships that people are passively involved in. Could the intention really be to tax that income at 3.8%?

After pondering that for a while, I decided it wouldn’t be that bad because most rentals report a loss after they factor in depreciation expense. But the ugly truth reads like this…..

Net investment income for surtax purposes is interest, dividends, royalties, rents and gross income from trade or business involving passive activities and net gain from disposition of property (other than property held in trade or business).

If I am reading this right it means that if you receiving passive income from a partnership you formed for your rental properties then you will be subject to the 3.8% surtax on the GROSS INCOME. As with all things having to do with the tax code there is a formula. So the first step is it only applies to you if you are a high income wage earner. That magic number if you are married filing joint is $250,000. The next step would be to determine what your Adjusted Gross Income is. That would be the amount on the last line of page 1 of your Form 1040. Multiply the amount over $250,000 by 3.8%. Next add up your investment income and multiply that by 3.8%. Next compare those two amounts, whichever is the smaller amount is the surtax you will pay.

Thankfully the surcharge isn’t in effect until 2013!

Healthcare Act

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