How Retirees Can Minimize the Net Investment Income Tax

One strategy is to consider your filing status, which can affect the net investment income tax (NIIT) that successful retirees pay on certain investment income.

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For retirees, navigating the intricate landscape of taxes is a nuanced task. However, determining your filing status is one of the most important decisions you’ll need to make. That’s because your taxable income is dependent on how you file. This is especially important when it comes to the net investment income tax (NIIT). So what is it, and what considerations should retirees make to minimize its impacts?

What is the net investment income tax?

The net investment income tax, or NIIT, is a tax levied on specific types of investment income, such as book royalties and capital gains, that impacts those with higher income levels. It went into effect in 2013 as part of the Health Care and Education Reconciliation Act of 2010.

According to the Congressional Research Service, it was ultimately included as a means to raise revenue and applies to those whose modified adjusted gross income (MAGI) surpasses the filing-status-based threshold determined by the IRS. Those who do are subject to paying the 3.8% tax. But there are a few steps retirees can take to minimize its impacts.

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Understanding and optimizing NIIT thresholds

To figure out the best filing option for your situation, you’ll need to know what the thresholds are. The threshold for single filers is $200,000. For married couples filing jointly, that amount goes up to $250,000. If they’re married but filing separately, that amount drops significantly to $125,000. Strategically choosing your filing status can help you maximize these thresholds while reducing your overall tax liability.

Unlocking deductions and exemptions

Once you’ve figured out your filing status, you’ll want to see what deductions and exemptions you qualify for. These are dependent on several factors, like your gross adjusted income and age, so be sure to consult with a professional to figure out the best option for you. Finding ways to decrease your income can help mitigate the NIIT.

Timing of income recognition

For retirees with fluctuating incomes, the timing of income recognition becomes critical. By strategically managing when income is recognized, retirees can control the application of the 3.8% NIIT, smoothing out their tax liability over time.

Head of household advantage

Single retirees qualifying as the head of household may benefit from a higher income threshold before the 3.8% tax applies. This filing status is specifically designed for those providing a home for a qualifying child or relative. The head of household threshold is $200,000.

Estate and trust strategies

Retirees engaged in trusts or estate planning must carefully consider the implications for the 3.8% NIIT. The proper structuring of these entities can play a crucial role in minimizing the tax impact on investment income.

With these considerations in mind, it’s important to note that choosing your filing status is a decision you shouldn’t tackle on your own. Instead, view it as an integral part of a broader tax planning and financial strategy. If you have yet to file, be sure to meet with a financial adviser or tax professional who can help you make the right choices for your financial situation.

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This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.

Derek A. Miser, Investment Adviser
Chief Managing Member, Investment Services, Miser Wealth Partners

Derek Miser serves as Chief Managing Member at Miser Wealth Partners, LLC, located in Knoxville, Tenn., and Tellico Village, Tenn. Miser Wealth Partners delivers family office services to successful retirees and entrepreneurs nationwide and in Puerto Rico. He recently published his first book, "Golden Years, Greener Pockets." This guide to tax efficiency for retirees is an excellent read for anyone contemplating or already retired.