Since the net investment income tax (NIIT) only applies to individuals whose MAGI exceeds the taxation thresholds, careful management of MAGI becomes an important tool in minimizing the NIIT both in current and future years since, what you defer now will generally impact MAGI at a future date or to heirs.

Since NIIT is a function of both MAGI and net investment income (NII) careful management of investment income and strategies to recharacterize income as non-investment come into play.

Higher-income taxpayers can minimize the NIIT by including in their investment portfolio non-dividend paying growth stocks, which do not currently increase MAGI or create investment income, but will affect MAGI and NII in the future when sold.

Tax-deferred annuities and related investments will also minimize current liability for the NIIT, but also consider what impact they might have in future years when the income is taken.

Tax-exempt income is not included in either MAGI or NII, providing a way to avoid the NIIT altogether.

Section 1031 exchanges are a way of deferring current taxable NII to future years.

Where allowed, installment sales provide a means of deferring and spreading investment income from investment capital gains over multiple years. Thus, current year income can be reduced and future income spread over multiple years. Caution: Buyers may pay off the note early and defeat part of this strategy, plus there are the inherent risks of the obligor defaulting.

Because distributions from qualified retirement plans are not included in net investment income, the NIIT provides taxpayers with additional incentive to maximize retirement plan contributions to minimize current NIIT liability. However, distributions from these plans, including RMDs, will impact the MAGI in the future.

Roth IRAs generally provide no current protection from NIIT, but do not add to MAGI when distributions are taken in the future and not at all if left to heirs. Taxpayers whose future distributions from regular IRAs and qualified plans could cause their MAGI to exceed the threshold amount may want to consider conversions to Roth accounts before RMDs are required, but done over time so that current MAGI isn’t bumped above the threshold amount.

Passive income is investment income for purposes of the NIIT. Classifying income as passive is generally advantageous for taxpayers with sufficient passive losses to offset the passive income. For taxpayers with net passive income, however, the NIIT increases the tax rate on passive income.

The NIIT provides higher-income taxpayers with an incentive to consider the use of family limited partnerships and related estate planning techniques. Investment income transferred from parents with significant MAGI and investment income to children with MAGI below the applicable threshold amount through the use of family limited partnerships will not be subject to the NIIT.

Estates and trusts with undistributed net investment income will be subject to the NIIT whenever their adjusted gross income exceeds the dollar amount at which the top marginal tax rate begins ($14,450 for 2023). Because the top marginal rate for estates and trusts begins at a relatively small amount of income, the NIIT is of particular concern to estates and trusts and should be considered in both distribution and investment decisions

The NIIT needs to be included when determining estimated tax payment requirements and the estimated tax penalty. (IRC Sec. 6654(f), as amended by the 2010 Reconciliation Act)

Starting in 2018, a taxpayer who has a capital gain on the sale or exchange of any property to an unrelated party may elect to defer, and potentially partially exclude, the gain from gross income if the gain is reinvested in a QOF within 180 days of the sale or exchange.