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Tax exempt securities: Municipal securities are not subject to the
3.8% surtax. By investing in tax exempt securities, investors reduce their exposure to the surtax.*
Tax efficient models: Tax efficient models will be more important
for the high net worth individual going forward. These models reduce the amount of capital gain by investing in funds that are sensitive to taxes and have a lower turnover rate.
Strategic investment placement: It is important to review which investments
are producing large amounts of investable income and what registration those investments are currently held in. Investments with large amounts of income may be repositioned to tax deferred accounts, i.e., retirement plans, annuities, etc. Investments with
low amounts of investment income could be repositioned to non-qualified accounts. This would reduce the amount of investable income reported on a 1099 for 2014.
Annuity distributions by exclusion ratio: Annuity income that is received
through annuitization is taxed based on an exclusion ratio. This means that a portion of the income is treated as a return of basis and is therefore not taxed. Taxpayers currently taking annuity distributions should analyze their exposure to the 3.8% net investment
tax.
Life insurance: Investors may benefit from investing in life insurance
vehicles. Tax exempt loans or distributions from life insurance avoid the 3.8% surtax. Taxes only apply on loans from life insurance if the policy is a modified endowment contract.
Increase participation to make income non-passive: Only passive income
is subject to the 3.8% surtax. If an investor has the ability to increase their participation in the business activity, they may be able to avoid the tax.
Capital loss harvesting: It is especially important to begin to look
at tax loss harvesting. This is the process of selling investments that have a loss to offset investments that have a capital gain. By implementing this strategy an investor may avoid the 3.8% tax on gains that have been offset by the harvesting of the loss.
Installment sales: Taxpayers are sometimes able to spread out capital
gain on a sale of property or business interest if it is spread out over a number of years. This could reduce the 3.8% net investment tax exposure.
With so many forms of investable income now subject to a 3.8% net investment tax it is important that high income taxpayers consult with an HD Vest Advisor to create strategies
that may reduce the exposure to this new tax burden. Applicable strategies should be built within a suitable plan that also takes into account the investor’s risk tolerance, time horizon, objective and other pertinent investor information. By partnering with
an Advisor, investor’s may be able to reduce their exposure to the 3.8% net income tax, or possibly, avoid it all together.
Sources: Health Care and Education Reconciliation Act of 2010, IRS Publication 537
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