As part of Health Care and Education Reconciliation Act of 2010 and Patient Protection and Affordable Care Act in 2010, there will be 3.8 percent investment tax imposed on unearned income above certain levels to help fund Medicare. It will impact some home sellers beginning with the 2013 federal tax year. Here are the 10 things you should know about this new tax,

1. When you add up all of your income from every possible source, and that total is less than $200,000 ($250,000 on a joint tax return), you will NOT be subject to this tax.
2. The 3.8% tax will NEVER be collected as a transfer tax on real estate of any type, so you’ll NEVER pay this tax at the time that you purchase a home or other investment property.
3. You’ll NEVER pay this tax at settlement when you sell your home or investment property. Any capital gain you realize at settlement is just one component of that year’s gross income.
4. If you sell your principal residence, you will still receive the full benefit of the $250,000 (single tax return)/$500,000 (married filing joint tax return) exclusion on the sale of that home. If your capital gain is greater than these amounts, then you will include any gain above these amounts as income on your Form 1040 tax return. Even then, if your total income (including this taxable portion of gain on your residence) is less than the $200,000/$250,000 amounts, you will NOT pay this tax. If your total income is more than these amounts, a formula will protect some portion of your investment.
5. The tax applies to other types of investment income, not just real estate. If your income is more than the $200,000/$250,000 amount, then the tax formula will be applied to capital gains, interest income, dividend income and net rents (i.e., rents after expenses).
6. The tax took effect on January 1, 2013. If you have investment income in 2013, you won’t pay the 3.8% tax until you file your 2013 Form 1040 tax return in 2014. The 3.8% tax for any later year will be paid in the following calendar year when the tax returns are filed.
7. In any particular year, if you have NO income from capital gains, rents, interest or dividends, you’ll NEVER pay this tax, even if you have millions of dollars of other types of income.
8. The formula that determines the amount of 3.8% tax due will ALWAYS protect $200,000 ($250,000 on a joint return) of your income from any burden of the 3.8% tax. For example, if you are single and have a total of $201,000 income, the 3.8% tax would NEVER be imposed on more than $1000.
9. It’s true that investment income from rents on an investment property could be subject to the 3.8% tax. BUT: The only rental income that would be included in your gross income and therefore possibly subject to the tax is net rental income: gross rents minus expenses like depreciation, interest, property tax, maintenance and utilities.
10. The tax was enacted along with the health care legislation in 2010. It was added to the package just hours before the final vote and without review. NAR strongly opposed the tax at the time, and remains hopeful that it will not go into effect. The tax will no doubt be debated during the upcoming tax reform debates in 2013.

As mentioned above, the tax will be imposed only on certain conditions so you don’t to panic unless your AGI is already crossing the limit proposed. If you are already crossing the AGI limit, it would be wise to discuss with your CPA and try to make proper arrangements on how you can tackle it.You cannot avoid the tax, you can only tackle and pay less by planning wisely.

Disclaimer: Realtors are not tax consultants. Please talk to your CPA or tax consultants to discuss your tax obligations.
Source: NAR

About Vijaianand Thirnageswaram

I am a Proud Realtor of Texas, trying to guide and help clients to find their dream home and educate them to buy them for right price. I am also a Candidate for CFP who has more financial knowledge which allows me share and educate clients in any financial decision making process.

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