Everything You Want to Know About Net Investment Income Tax (or Not)

Tony Nitti does a regular column on Forbes.com and he just released a very good recap of the 3.8% net investment income tax that was implemented by Obamacare, but was not applicable until 2013.  Many farmers assume this tax will never apply to them since their adjusted gross income will never be in excess of $200/250,000 since they maximize their available deductions and timing of income.

In most cases, they are correct.  However, what about farmers who retire and then start cash renting their farmland.  If you have 1,000 acres of good farmland, it only takes $250 per acre cash rent to put you over the threshold.  Then, after a few years of cash renting, the farmer elects to sell his farmland.  In this case, almost all of the gain will be both subject to the 3.8% net investment income tax and the 20% maximum federal tax plus state income taxes.

Let’s look at an example:

  • Farmer Bean owns 1,000 acres of good farmland that he paid $500,000 for in 1988.  This land cash rents for $350 per acre and he has $75,000 of other taxable income from social security and investments.
  • His total gross income for 2013 is $425,000 which is $175,000 in excess of the $250,000 threshold amount.  Since $175,000 is less than his cash rents of $350,000, his net investment income tax is $6,650 ($175,000 X .038)
  • In 2014, his neighbor offers him $15,000 per acre for his farmland.  This results in a gain of $14.5 million.  All of this gain is subject to (1) 3.8% net investment income tax; (2) 20% maximum federal income tax; and (3) 9% state income tax for total taxes of $4,756,000 ($14,500,000 X 32.8%).
  • If he had sold the land in 2012, his total taxes would have been $3,480,000 ($14.5 million X 24%)

As you can see, by waiting one year, his total taxes from selling the farmland has risen almost $1.3 million.

I do not see this tax getting repealed.  As a matter of fact, there are several influential individuals such as Bill Gross, Warren Buffett, etc. calling for the elimination of preferential capital gains treatment.  If that happened, this farmer’s tax would increase by another 20% or almost $3 million.

We will keep you posted on any details, but it is important to know how the net investment income tax might affect you and I recommend reading Tony Nitti’s post.  It is done in a question and answer format and should answer most of your questions.

Paul Neiffer, CPA

Paul Neiffer

Paul Neiffer is a certified public accountant and business advisor specializing in income taxation, accounting services, and succession planning for farmers and agribusiness processors. Paul is a partner with CliftonLarsonAllen in Yakima, Washington, as well as a regular speaker at national conferences and contributor at agweb.com. Raised on a farm in central Washington, he has been immersed in the ag industry his entire life, including the last 30 years professionally. In fact, Paul drives combine each summer for his cousins and that is what he considers a vacation. Leave a comment for Paul. If you would like to leave a comment for Paul, follow the link above, however, please make sure to include your email address so that he can reply to your comment (your email address will not automatically show up).

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