WHO IS SUBJECT TO THE NET INVESTMENT INCOME TAX (NIIT)?- Citizens and residents of the United States i, ii

- Bona Fide Residents of United States Territories iii

- Bankruptcy Estates iv

- Certain Trusts and Estates (See § 1411(a)(2)).

BEGINNING JANUARY 1, 2013, § 1411 OF THE INTERNAL REVENUE CODE (IRC) WILL IMPOSE A TAX OF 3.8% ON THE “NET INVESTMENT INCOME” OF CERTAIN INDIVIDUALS, ESTATES, AND TRUSTS. THE FOLLOWING WORKSHEETS EXAMINE THE EFFECT OF THE NEW LAW ON INDIVIDUAL TAXPAYERS:

HOW IS THE NET INVESTMENT INCOME TAX APPLIED?In the case of an individual, the NIIT is applied to the lesser of v

1. Net investment income (NII), or 2. The excess of modified adjusted gross income (MAGI) over the applicable threshold amount.

WHAT IS NET INVESTMENT INCOME?Prop. Reg. § 1.1411-4 defines NII as:• Interest, dividends, capital gains, rent and royalty income, and non-qualified annuities. vi

• Other income and gains from passive activities. vii

• Other income and gains from businesses involved in the trading of financial instruments and commodities. viii

• Gains from the sale of interests in partnerships and S corporations, subject to exceptions. ix

Please see the accompanying pages for the determination of the types of income included in a taxpayer’s net investment income.

WHAT IS MODIFIED ADJUSTED GROSS INCOME?Under § 1411(d), modified adjusted gross income is a taxpayer’s adjusted gross income increased by the excess (if any) of foreign earned income normally excludable under § 911(a) less amounts deducted in computing adjusted gross income and deductions attributable to foreign earned income. x

WHAT ARE THE THRESHOLD AMOUNTS? xi

• Married filing jointly or surviving spouse: $250,000• Married filing separately: $125,000• All other taxpayers: $200,000

ON WHAT FORM IS THE NET INVESTMENT INCOME TAX REPORTED?The NIIT will be reported on the Taxpayer’s Form 1040. The IRS does not require a separate form to be filed in instances where individuals are subject to the tax.

IS THE NET INVESTMENT INCOME TAX SUBJECT TO ESTIMATED TAX PROVISIONS?Yes, the NIIT is subject to the estimated tax provisions. Individuals who anticipate exceeding the applicable thresholds should adjust withholdings or increase estimated tax payments to avoid underpayment penalties.

Prop. Reg. § 1.1411-2(a)(1). Nonresident aliens are not subject to the NIIT.A U.S. resident or citizen who is married to a nonresident alien spouse must compute net investment income and MAGI separately, and must use a $125,000 threshold, unless the taxpayers have made or make an election to file jointly pursuant to § 6013(g). Consult Prop. Reg. §§ 1.1411-2(a)(2)(i)(B)(2). Prop. Reg. § 1.1411-2(a)(2)(iv). Prop. Reg. § 1.1411-2(a)(iii). Prop. Reg. § 1.1411-2(b). Prop. Reg. § 1.1411-4(a)(1)(i). Prop. Reg. § 1.1411-4(a)(1)(ii).Id. Prop. Reg. § 1.1411-4(a)(1)(iii). Prop. Reg. § 1.1411-2(c). If a taxpayer does not have foreign earned income, MAGI will equal the taxpayers’ adjusted gross income. Prop. Reg. § 1.1411-2(d).

i ii

iiiivvviviiviiiixxxi

1 of 4To speak to the authors of this document, please contact Tony Nitti at 970-429-8074 or Kevin Mohr at 732-828-1614

Document created on 12/6/12.

INTEREST, DIVIDENDS, ANNUITIES, ROYALTIES

iiiWas the income earned in a trade or business under the meaning of Section 162?

iv

Income is net investment income (less properly allocable deductions)

vii

v

No

Was the income earned in the “ordinary course” of the trade of business? (i.e. not portfolio income)

Is the trade or business the trading of financial instruments or commodities?

No Yes

Did the taxpayer materially participate in the trade or business under the meaning of Section 469? (i.e. the activity was non-passive to the taxpayer) vi

Income is excluded from net investment income viii

Yes

Prop. Reg § 1.1411-4 (a)(1)(i)Includes substitute interest and dividend payments, see Prop. Reg § 1.1411-4(a)(1)(i)Prop. Reg § 1.1411-4(b), see Prop. Reg § 1.1411-4(b)(3) Example 1Id. Id., Prop. Reg § 1.1411-5(a)(1)Id., Prop. Reg § 1.1411-5(a)(2), see Prop. Reg § 1.1411-4(b)(3) Example 2See Prop. Reg § 1.1411-4(f)See Prop. Reg § 1.1411 - 4(b)(3) Example 3

i iiiiiivvviviiviii

RENTAL INCOME

Is the taxpayer a “real estate” professional” under the meaning of Section 469(c)(7)?

i

Income is net investment income (less properly allocable deductions) v

No

Did the taxpayer materially participate in the activity under the meaning of Section 469? iv

Rental income is excluded from net investment income.

Prop. Reg § 1.1411-5(b)(2) Example 5Prop. Reg § 1.1411-4 (a)(1)(i)See the preamble to the proposed regulations page 50 Prop. Reg § 1.1411-5(b)(2) Example 1Consider the effect of any grouping elections made pursuant to Treas. Reg § 1.469-4See Prop. Reg § 1.1411-5(b)(2) Example 2Prop. Reg § 1.1411-4(f)

i iiiiiiv

v

Does the rental activity rise to the level of a trade or business under the meaning of Section 162?

iiNo Yes

i ii

Was the income earned in an activity that meets an exception to “rental activities” under Treas. Reg. 1.469-1T?

No Yes

iii

Yes

Yes

No

No

No Yes

Yes

2 of 4To speak to the authors of this document, please contact Tony Nitti at 970-429-8074 or Kevin Mohr at 732-828-1614

Document created on 12/6/12.

iiIs the trade or business the trading of financial istruments or commodities?

Income is net investment income (less properly allocable deductions)

No

iii

Does the taxpayer materially participate in the activity under the meaning of Section 469?

No Yes

Income is excluded from net investment income

Income other than interest, dividends, annuities, royalties, rents, or gains from the sale of property. Prop. Reg § 1.1411-4 (c)(1). Income that is not earned in a trade or business (for example, hobby income under Section 183) is not included in net investment income unless the income is interest, dividends, annuities, royalities, rent, or gains from the disposition of property. See the preamble to the proposed regulations on page 48. Prop. Reg § 1.1411-4(c)(2)Prop. Reg § 1.1411-4(c)(1), See Prop. Prop. Reg § 1.1411-5(b)(2) Example 5

i

iiiii

GAIN FROM THE SALE OF ASSETS

See next page

i

Gain is net investment income.

v

No

Was the trade of business the trading of financial instruments? iii

Yes

Did the taxpayer materially participate in the activity under the meaning of Section 469?

Prop. Reg § 1.1411-4(d)Prop. Reg § 1.1411-4(d)(3)(ii), See Prop. Reg § 1.1411-4(d)(3)(ii)(c) Example 1Id. Id. Id. Prop. Reg § 1.1411-4(d)(2). Gain may be reduced by net losses, but not below zero.

i iiiiiivvvi

Was the property held in a trade or business under the meaning of Section 162?

i

Was the gain from the sale of S corporation stock or a partnership interest?

Yes

ii

Yes

Yes No

iv

Yes

Was the sold asset working capital?

vi Gain is not net investment income.

No Yes

No

No

3 of 4To speak to the authors of this document, please contact Tony Nitti at 970-429-8074 or Kevin Mohr at 732-828-1614

Document created on 12/6/12.

GAIN FROM THE SALE OF INTERESTS IN PARTNERSHIPS AND S CORPORATIONS

i

Was the S corporation or partnership engaged in one or more trades or businesses under the meaning of Section 162?

Gain is net investment income vii

No

Was at least one of the trades or businesses not the trading of financial instruments or commodities?

Seller may reduce any gain from the sale of the interest in the partnership or S corporation pursuant to Prop. Reg. § 1.1411-7(e)

Yes

Prop. Reg § 1.1411-7 (a)(1)(A)Id. Prop. Reg § 1.1411-7 (a)(2)(i)(B)Prop. Reg § 1.1411-7 (c), Prop. Reg § 1.1411-7 (e), Examploes 1-8

i iiiiiiv

Gain is net investment income.

No

Gain is not included in net investment income.

Prop. Reg § 1.1411-4(b) Example 4i

Was any gain remaining after the application of the appropriate Section 121 exclusion?

No Yes

Did the residence meet the definition of the taxpayer’s principle residence under the meaning of Section 121?

No Yes

Yes

Yes

No

ii

Does the seller materially participate in the non-financial trade or business under the meaning of Section 469? iii

iv

GAIN FROM THE SALE OF A RESIDENCE

i

4 of 4To speak to the authors of this document, please contact Tony Nitti at 970-429-8074 or Kevin Mohr at 732-828-1614

This document is not intended as tax advice. Use at your own risk. Please consult with your tax advisor to determine how any item applies to your situation. To ensure compliance with U.S. Treasury rules, unless expressly stated otherwise, any U.S. tax advice contained in this communication (including attachments) is not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.

Document created on 12/6/12.