Since married people can file either jointly or separately, this important financial decision might best be made, in part, on their vulnerability to the 3.8% NIIT (net investment income tax) they might have to pay.
As a reminder, the amount of unearned income subject to the 3.8% NIIT is the lesser of either the net investment income (NII) or the excess over an applicable threshold amount (ATA) of the modified adjusted gross income (MAGI).
Included in the NII is gross income from interest, dividends, annuities, royalties, and a trade or business considered a passive activity. Excluded from the NII are qualified retirement plans, wages and salaries, and self-employment income. Remember, too, that the ATA is $125,000 for married taxpayers that file separately, and $250,000 for married taxpayers that choose to file jointly.
While initially it may appear that the effect of the 3.8% NIIT would make no difference because of the similarity of ATA for filing separately or jointly, a closer analysis shows individual circumstances could sway the decision one way or the other.
Should one spouse have most of the NII and the other have less, filing separately might save significantly on the 3.8% NIIT tax.
Deciding whether to file separately or jointly also depends on the 0.9% Additional Medicare Tax as either one, or both, or neither of the spouses may be subject to this additional tax. Your tax accountant should do the calculations necessary to help you arrive at a conclusion that demonstrates the best tax-saving decision for you.
Example: Robert and Linda are married and Robert has $300,000 of salary income but no NII. Linda has $30,000 of NII but no other income. If they file separately, neither taxpayer will have to pay the 3.8% NIIT because Robert has no NII and Linda’s MAGI falls below her ATA. By filing jointly, they will have to pay the 3.8% NIIT.
Continuing the calculation by including the effect of the 0.9% Additional Medicare Tax, if Robert and Linda file jointly, they will not be subject to the 0.9% tax because their ATA is too low. However, by filing separately, Linda will not be affected by the 0.9% tax but it will apply to part of Robert’s income.
In addition, when contemplating which filing status is best for skirting the NIIT, the other considerations of how this affects the regular income tax brackets could result in the taxpayers paying more in regular income taxes because the filing status is affected by that choice.
Your tax consultant will need to do a series of calculations to determine whether it is better for you to file jointly or separately so a determination can be made about which filing is most tax beneficial for your particular circumstances.
Top Tax Tip #10: Saving Employment Taxes Through S-Election
Should you be in the position of paying employment taxes, you might find that a portion of your income might not be eligible for employment taxes, thus saving you additional cost.
Most businesses choose the S-election for their corporation to avoid the double tax inherent with being a C corporation. However, being an S corporation has additional advantages. As well, other business types, such as sole proprietorships, partnerships, limited partnerships, limited liability companies, limited liability partnerships, and limited liability limited partnerships can also make an S-election.
As an employer, there are several taxes that must be accommodated. That includes the Social Security Tax, the Medicare Hospital Insurance Tax, and the Additional Medicare Tax. With an S-election, a business owner may be able to save on these taxes because earnings can be separated into two categories, wages and distributions. While wages do incur employment taxes, distributions do not. This is a benefit to the business owner of a business organization operating under an S-election.
As you might expect, there are a variety of considerations that would need analysis. Even the courts are sometimes unclear on determinations. What is clear is that the wages paid to a business owner/employee must be “reasonable”, which means not too low with the obvious intention of avoiding taxation. Should that be the case, the IRS could adjust the figures higher to a more appropriate designation.
If you think this might be a strategy worth investigating, be sure to engage an experienced professional who can guide you with the subtleties and give you a reasonable expectation of a positive outcome for your circumstances. A good first step would be a careful examination about your business organization’s eligibility for an S-election, and an assessment about the amount of potential savings that could be available to your circumstances should you decide to make this decision.
The strategies presented in this report represent outlines of information that could be especially helpful to you in the 2019 tax year. To determine which of these would be most beneficial, or to examine other wealth saving tax strategies, contact us for a more insightful review.
Joseph M. Maas, CFA, CVA, ABAR, CM&AA, CFP®, ChFC, CLU®, MSFS, CCIM
Synergy Financial Management, LLC
13231 SE 36th Street, Suite 215
Bellevue, WA 98006