How to Save the 3.8% Net Investment Income Tax on Certain Installment Sales
June 16th, 2020
For taxpayers whose Adjusted Gross Income (AGI) exceeds a certain level, investment income is subject to Net Investment Income Tax (NIIT) of 3.8%. NIIT is reported on Form 8960. Investment income includes taxable income from interest, dividends, annuities, net gain or loss from disposal of property and other passive income.
Generally, income from the ordinary course of a trade or business is not subject to NIIT so long as the taxpayer materially participates in the trade or business (unless the trade or business pertains to the trading of financial instruments or commodities). Gain or loss from the sale of property held in a trade or business in which the taxpayer materially participates is also not subject to the NIIT. So long as the taxpayer materially participates in the trade or business, this exemption from NIIT occurs whether the capital gain income is recorded in the year of sale or is recorded as an installment sale (IRS Section 453).
If you dispose of an S-Corporation stock in an installment sale transaction to which Section 453 applies, calculate your adjustment to net gain in the year of disposition, even if the disposition occurred prior to 2013. The difference between the amount reported for regular income tax and NIIT will be taken into account when each payment is received. There is a required statement to attach to your return in the first year you are subject to NIIT. In subsequent years, attach a statement to your return that provides “Adjustment relates to a deferred recognition sale first reported on Line 5c of the (enter year) return.”