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U.S. Net Investment Income Tax


News Flash: The article below was written January 7, 2013. I had a more in-depth article published the the AICPA's TAXES Magazine April 2014. Today I received notice from a practitioner that a taxpayer had taken the position, discussed in the article, that the NIIT was inapplicable, on the basis that he resided in a country with a social security totalization agreement (``SSTA``). The position was denied upon initial assessment (as expected). The taxpayer protested, and the IRS allowed the position - the NIIT was not chargeable. A victory!

This exclusion speaks only to the countries with which the United States has SSTAs. We don`t know whether the foreign tax credit approach will work.

Another caution:  This is merely an assessment of one return - it is not a statement of policy by the IRS. Let`s see how other cases unfold.

News Flash: Further update January 20, 2014. A number of returns taking the SSTA approach have been accepted - some have "slid" through, and others have been denied, and were the subject of protest letters. So far, those protests have been accepted. Good news, so far, but again, it is not a statement of policy by the IRS


I speak more about this in The Globe and Mail article 'U.S. expats face new Obamacare health care tax'

Are you a U.S. citizen or green-card holder? While everyone’s been focusing on the “fiscal cliff”, something else has been going on that may actually raise your tax bill.

Effective January 1, 2013, to help fund “Obamacare”, the United States has brought in a tax – the “Net Investment Income Tax”. This tax is 3.8% of your investment income if your total earnings are above:

  • For a married couple filing jointly, $250,000
  • For a married person filing separately, $125,000, and
  • For a single taxpayer, $200,000.

Investment income is, generally, interest, dividends, annuities, rents, royalties, and most net gains. It includes income from passive activities. It does not include distributions from qualified retirement plans.

“So what”, you may say. I live in Canada. Canada effectively taxes me. ”I don’t pay U.S. income tax”.

Not so fast. This is described as a “Medicare Contribution”, not an income tax.

“So what, if it’s a Social Security tax, I’m exempt, because I live in Canada. Shouldn’t it be covered by the Social Security Totalization Agreement?”

Well, it should, because it’s the same kind of tax, but that agreement doesn’t specifically cover this tax. This tax is not dedicated to the Medicare Trust Fund. It might not be covered.

“So what”, you say again. “My income is subject to Canadian tax. I get a foreign tax credit on my U.S. return, and it’s just a paper filing exercise only.

Welcome to the new era, where the United States government is desperate for money.

First of all, the investment income could be generated from U.S. investments. One would think that if your Canadian tax rate is high enough, then you’ll get a full Canadian foreign tax credit, and the problem goes away. But if you live in Alberta or a territory, your Canadian tax rate may be lower than your U.S. rate, and your effective tax will now climb.

The problem can occur in other ways in the rest of Canada. Sometimes you can have income that is exempt from Canadian tax, but subject to U.S. tax. For instance, the Canadian real estate market has been good over the past number of years, and the Canadian dollar has appreciated against the U.S. dollar. When you sell your house, you may have a gain (measured in U.S. dollars) of over $250,000 ($500,000 for a married couple). The excess is subject to regular U.S. tax and to this new tax even though it’s exempt from Canadian tax.

Finally, you could earn regular Canadian investment income. If you’re in a province other than Alberta, the income is probably subject to Canadian tax at rates that are higher than the U.S. rates, even including this new tax. Under the Internal Revenue Code, there is no foreign tax credit allowed against this new tax. It is arguable that the tax treaty provides for a credit, but at this point, this position is no sure thing.

Happy New Year!