Understanding the Net Investment Income Tax (NIIT)

There are certain life events that can have a large impact on the taxes you pay: retiring, getting married, selling a business, inheriting assets, and more.   

As if the income tax system needed an additional level of complexity, a separate tax on investments was introduced in 2013.   

The Net Investment Income Tax, or “NIIT”, is a separate tax that applies to investment income. While it may seem straightforward, this “special" tax has some quirks to it that might leave some investors surprised when it comes time to file their taxes.   

In this article, we’ll outline what the NIIT is, who may be on the hook for it, and ways to optimize your income to lower your tax liability.   

What is Net Investment Income Tax?  

The Net Investment Income Tax applies a 3.8% tax to investment income if certain income threshold amounts are exceeded.   

The NIIT kicks in if you have investment income and your modified adjusted gross income (MAGI) is over certain thresholds.   

While it may seem like a tax to punish successful investors, it was introduced broadly to generate tax revenue from higher-income individuals to offset the cost of public services like health care. 

Since going into effect in 2013, the tax rate has remained at 3.8% on qualifying income amounts that have not been increased. 

Who is Subject to NIIT?   

Individual taxpayers, estates, and certain trusts are subject to the Net Investment Income Tax if they meet two requirements: 

1. Their income exceeds the applicable thresholds (more on that below), and  
2. They have qualifying investment income.  

When it comes to non-US citizens, the rules become more complex. Nonresident aliens (NRA), who typically have a tax filing requirement if they are engaged in business in the United States, are exempt from the NIIT.   

Special rules apply to NRAs who are married to a US resident, or if they have dual-status residency. If you are in a unique situation like that, we’d recommend connecting with a tax or financial planning advisor to discuss.  

How the Net Investment Income Tax Works  

If the two requirements listed above are met (MAGI threshold hit and generating investment income), a taxpayer will be subject to NIIT.   

To understand how the NIIT works, you must know your filing status and the applicable MAGI thresholds:  

Individual Taxpayers:   

Estates and Trusts:  

• The adjusted gross income (AGI) over the dollar amount at which the highest tax bracket begins for an estate or trust for the tax year.   

• For estates and trusts, the current threshold is $15,200. If the estate or trust’s AGI is below $15,200, it is not subject to the NIIT.  

To put it simply, for individuals the 3.8% tax applies to the lesser of the amount your MAGI exceeds the threshold, or your total net investment income, whichever is lower.   

For example, if you are a single taxpayer, with a MAGI threshold of $200,000, with $45,000 of investment income and total modified adjusted gross income of $300,000, you will pay NIIT on all $45,000, or an additional $1,710.   

If, however, your total investment income is $45,000 but your total MAGI is $220,000, you will only pay NIIT on $20,000. This is the amount that exceeds the MAGI threshold and is less than the total investment income. 

Finally, if both amounts exceed the MAGI threshold, i.e. your total investment income is $300,000 and your total MAGI is $250,000, you will be taxed on the lesser overage. In this case, 3.8% of $50,000, or $1,900. 

What Qualifies as Investment Income? 

You might be asking, what is considered “investment income?” Investment income subject to NIIT includes interest, dividends, royalties, rental income, earnings from a passive business activity, capital gains, sale of passive business interest, and more.   

Generally, NIIT does not apply to wages, distributions from a qualified retirement plan (IRAs/401(k)), unemployment compensation, or business income earned from an active business. It also typically will not apply to items that are excluded from regular income tax purposes such as municipal bond income, or veterans benefits. 

Determining the NIIT treatment of gains from the sale of real estate, including a primary residence, can be complex so it's best to review with a professional if you're unsure to avoid penalties. 

The Net Investment Income Tax is calculated on IRS Form 8960 and included with the Federal Tax Return. The form uses inputs from other sources of the income tax return, and generates a total Net Investment Income Tax, that flows to Schedule 2, Part II, Line 12.   

Once it is aggregated with all other applicable taxes, the amount flows to Page 2, Line 23 of Form 1040.   

Strategies to Manage NIIT Liability  

Although it has been part of the tax system for over a decade, the MAGI thresholds provided above have not been adjusted for inflation. For this reason, it is not expected that the rates or thresholds will change in the short-term.   

At the end of 2025, the Tax Cuts and Jobs Act (TCJA) is set to expire. While TCJA maintained the NIIT, the expiration could lead to massive changes in tax law in general, which could include the NIIT.   

Because the NIIT is likely to remain in effect, it is important to manage your liability as a taxpayer. Here are a few practical ways to minimize your NIIT in 2025:   

Lower Your MAGI  

Contributing to tax-advantaged qualified retirement plans like 401(k)s, SEP IRAs, or Health Savings Accounts (HSAs) can reduce MAGI.  

Additionally, retirement account distributions have some flexibility as to the timing and amount of required distributions. During certain tax years, it might make sense to accelerate distributions to avoid higher distributions in later tax years.  

A good way to know if this strategy may work for your plan is to consult with a wealth manager or certified tax professional. 

Reduce Net Investment Income  

There are a few ways to help make sure you’re able to deduct as much as possible from what qualifies as NII.  

• For example, consider selling securities at a loss to offset potential gains, a practice known as tax loss harvesting.  

• Ensure you are deducting all expenses related to potential rental properties (property taxes, mortgage interest, etc.)  

• Consider holding more municipal bonds in your portfolio as earnings from these bonds don’t increase MAGI.   

Gift or Donate Appreciated Securities  

If a financial goal is to provide cash to a loved one or a charity, consider donating securities directly to the recipient rather than selling and realizing capital gains, which could be subject to the investment tax.  

As long as the gift is under the annual gift tax exclusion, the IRS approves direct gifts of securities to loved ones to be made tax-free. Additionally, an IRS-approved charity can receive stock and sell with no tax consequences.   

Additionally, for those age 70 ½ and older, consider making charitable gifts using retirement assets through a Qualified Charitable Distribution (“QCD”). Particularly for individuals who have reached their required minimum distribution age, using QCDs will help lower their AGI thereby reducing the amount of net investment income that is subject to the NIIT. 

Federal Tax Credits and Withholdings  

Any credits allowed to offset regular income tax are allowed to offset NIIT. However, foreign income tax credits and the general business credits can't be used to offset NIIT liability. If you believe you are subject to NIIT, you can withhold additional federal tax from your wages or pay quarterly estimates to help cover the liability.   

Next Steps  

The Federal income tax system is complex, and the Net Investment Income Tax can be a frustrating piece of the puzzle when it comes time to file your taxes.  

If you are someone who often finds themselves close to, or above the income thresholds mentioned in this article, it is important to work with a CPA or financial advisor to better understand the role of NIIT in your story.   

The NIIT isn’t the only thing that can have an impact on your tax bill, particularly if other complexities are present in your financial plan. If you’re ready to see what a customized wealth strategy could look like for you, get started with our 2-minute financial analysis.