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The New 3.8% Surtax on Investment Income

The Health Care and Education Reconciliation Act of 2010, signed into law by President Obama on March 30, 2010, created a 3.8 percent surtax on certain net investment income.  The application of the surtax began on January 1, 2013.

Net Investment Income (NII) is defined as:

(1)   gross income from interest, dividends, annuities, royalties, rents, substitute interest payments and substitute dividend payments unless such income is derived in the ordinary course of a trade or business that is neither a passive activity with regard to the taxpayer nor a financial instrument or commodities business;
(2)   other gross income derived from a trade or business that is either a passive activity with respect to the taxpayer or a financial instrument or commodities business; and
(3)   net gain (to the extent taken into account in computing taxable income) attributable to the disposition of property except to the extent the gain is from the sale of property held in an active trade or business other than a financial instrument or commodities business.

Self-employment income, active trade or business income, gain on the sale of an active interest in a partnership or S-Corp, IRA or qualified plan distributions, trusts for charity (except CLTs) and non-resident alien’s income are all excluded from NII.

Application of the Tax on Individuals

The 3.8 percent tax applies to all individuals who have adjusted gross incomes over the threshold amounts and receive net investment income as defined in the Act (see above).  The amount subject to the surtax will be the lesser of (1) the net investment income; or (2) the amount of the taxpayer’s adjusted gross income that exceeds an applicable threshold amount.  The threshold amount for a single taxpayer is $200,000.  The threshold amount for a married taxpayer filing jointly is $250,000 ($125,000 if filing married separate).

By definition, your adjusted gross income includes wages from work, net investment income, qualified distributions from a retirement plan such as a traditional IRA, 401(k), or 403(b), and any foreign earned income exclusion you may have earned during the tax year.

How Does the Tax Affect Trusts & Estates?

The general rule is that the surtax applies to all trusts and estates described in Subtitle A, Chapter J, Part 1 (IRC §§ 641 – 685) that earn income over the threshold amount.  That amount is $11,950 for 2013.  There are however, the following exceptions:

1.     A trust under which all the unexpired interests are devoted to one or more of the charitable purposes described in IRC § 170(c)(2)(B);
2.     A grantor trust or § 678 trust;
a.     Since income in a grantor trust or a § 678 trust is reported on an individual’s income tax returns, the NII will be added to the individual’s 1040 and the surtax will be calculated according to the rules for individuals;
3.     A trust exempt from tax under IRC § 501(c);
4.     A charitable remainder trust;
5.     Most foreign trusts;
a.     The Treasury Department has indicated that they will take the position that NII accumulated in a foreign trust for the benefit of a domestic beneficiary should be subject to the surtax;
6.     Business trusts;
7.     Common trust funds; and
8.     Pooled income funds.

The 3.8 percent tax will be imposed on the lesser of: (1) the total undistributed net investment income for the taxable year; or (2) the excess of the entity’s AGI for the taxable year over the highest trust and estate tax bracket ($11,950 for 2013).

The surtax will not affect everyone but its effect could be steep. Taxpayers, including trusts and estates, in the highest marginal income tax rate, which is currently 39.6 percent, will pay 43.4 percent with the surtax in 2013.

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Trusts & Estates Committees

  • Ad Hoc Spousal Elective Share Committee
    Ad Hoc Spousal Elective Share Committee
  • Elder Law and Disability Planning Committee
    This committee addresses a variety of legal matters generally associated with elder clients, disabled clients and clients with disabled dependents. Areas covered include basic and sophisticated estate planning, Medicaid planning, disability, SSI, special needs and long-term care planning, guardianship and conservatorship.

    Contact Information

    Michael Couture

    Winston Law Group

    (617) 841-4000

    Michael A. Stankavish

    North Shore Elder Law & Estate Planning

    (781) 979 9050

  • Estate Planning Committee
    This committee provides a forum to exchange tax-planning ideas and discuss common problems among lawyers specializing in estate planning.

    Contact Information

    Kelly A. Aylward

    Tarlow, Breed, Hart & Rodgers, PC

    (617) 218-2038

    Kerry Spindler

    Goulston & Storrs PC

    (617) 482-1776

  • Fiduciary Litigation Committee
    This committee focuses on a range of litigation matters involving trusts and estates. Areas covered include will and trust contests, disputes over the distribution of trust assets, instrument interpretation, trust modifications and accounting actions.

    Contact Information

    Jennifer Locke

    Goodwin Procter LLP

    (617) 570-1152

    Marshall D. Senterfitt

    Goulston & Storrs PC

    (617) 482-1776

    Jillian B. Hirsch

    Day Pitney LLP

    (617) 345-4621

  • New Developments Committee
    This group of lawyers works to track developments in trusts & estates law.

    Contact Information

    Jaclyn S. O'Leary

    Day Pitney LLP

    (617) 345-4682

    Melissa E. Sydney

    Burns & Levinson LLP

    (617) 345-3232

  • Practice Fundamentals Committee
    A part of the Trusts & Estates Section, the Estate Planning Fundamentals Committee focuses on the fundamentals of trusts and estates practice. Its monthly meetings typically feature a presentation on topics of interest to new practitioners. The committee welcomes practitioners with all levels of experience, but its activities are most valuable to trusts and estates practitioners with less than five years of experience.

    Contact Information

    Jennifer Shingleton Ewing

    Ropes & Gray LLP

    (617) 951-7552

    Jennifer A. Civitella Hilario

    Tarlow, Breed, Hart & Rodgers, PC

    (617) 218-2028

    Anne L. Warren

    Brown Brothers Harriman & Co.

    (617) 742-1818

  • Steering Committee
    The leadership committee of the Section organizes programs and discusses policy. To inquire about opportunities, please contact the Section Co-Chairs.
  • Tax Law Update Committee
    The Tax Law Update Committee tracks estate, GST and gift tax law developments throughout the year and presents a summary of those developments twice annually at the Year In Review and Mid-Year Review.

    Contact Information

    Alison Irving Glover

    Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C.

    (617) 3481661

    Charles C. Platt

    Fiduciary Trust Company, Boston

    (617) 482-5270

  • Trusts & Estates Education Committee
    Help develop relevant and innovative educational sessions led by a diverse group of talented speakers who cover trusts and estates issues.

    Contact Information

    Joseph L. Bierwirth

    Hemenway & Barnes LLP

    (617) 557-9728

    Stacy K. Mullaney

    Fiduciary Trust Company, Boston

    (617) 549-0339

    Amiel Weinstock

    Thomas Brady & Associates

    (617) 266-0019

  • Trusts and Estates Communications Committee
    This committee publishes information relevant to the trusts & estates bar. If you are interested in an editorial position or publishing an article, please contact us.

    Contact Information

    Angie Christopher Guarracino

    Regnante, Sterio & Osborne, LLP

    Amy R. Lonergan

    Day Pitney LLP

    (617) 345-4600

  • Trusts and Estates Public Policy Committee
    The BBA is very active in legislative and regulatory changes. Trusts and Estates attorneys are often asked to lend their expertise.

    Contact Information

    Christopher M. Falzone

    Rockland Trust Company

    (617) 261-3583

    Peter M. Shapland

    Day Pitney LLP

    (617) 345-4766

  • Trusts and Estates Public Service Committee
    This committee, working in collaboration with the Probate & Family Court and the Massachusetts Bar Association created the Massachusetts Uniform Probate Code Resource Desk. The aim of the Resource Desk is to assist attorneys with understanding the transition to the new Code and how it affects their practice. Volunteers will be providing advice and guidance to the attorneys.

    Contact Information

    Nikki Marie Oliveira

    Bass, Doherty & Finks, PC

    (617) 787-5551

    Tamara Lauterbach Sturges

    Egleson & Sturges, LLC

    (617) 517-0067

    Tamara Lauterbach Sturges

    Egleson & Sturges, LLC

    (617) 517-0067