Tuesday, March 19, 2013


Starting January 1st of this year, Internal Revenue Code Section 1411 went into effect. This is the Net Investment Income Tax or as I call it, the NIIT-WIT tax. As a result of Section 1411, there is a 3.8% tax on Married Couples filing jointly if their adjusted gross income is over $250,000. For single tax payers, the adjusted gross income must be under $200,000 to avoid the NIIT-WIT tax.

I believe it is more important than ever to have an investment adviser who is also a real estate agent.

Here are some examples as to why.

Let's look at some planning situations whereby you might inadvertently fall into the NIIT-WIT trap.

1) Suppose you are single and go to your stockbroker and he tells you that the income limits for converting your IRA account to a Roth IRA are no longer in place. As a result, your stockbroker advises you to convert your IRA to a Roth IRA. In addition, your stockbroker tells you to use your Home Equity Line of Credit to pay the taxes. Once the Roth grows for about 5 years, then you take a cost basis withdrawal from your Roth IRA to pay off the Home Equity Line of Credit. In past tax years, this was a good strategy, but one that now needs to be well thought out.

Assume that you have $400,000 in your IRA account. Your adjusted gross income before the Roth Conversion is $100,000. Therefore, your total AGI is now $500,000. You are now $300,000 over the NIIT-WIT threshold.

But, wait, your real estate agent has found a buyer for your real estate investment property and the buyer is willing to pay your sell price. The cost basis on your investment property was only $120,000 and the sell price is $320,000. Another $200,000 is now added to your gross income for a total of $500,000 over the NIIT-WIT threshold. The total NIIT-WIT tax due is $19,000.

Odds are that your stockbroker and your real estate agent do not even know each other and neither knew what the other one was doing.

2) Suppose you are married and file jointly with the IRS. Your insurance agent has sold you a Non-Qualified Variable Annuity several years ago with 10% free withdrawals. Your Non-Qualified Variable Annuity has grown to $700,000 and you are starting to take the 10% free withdrawals from it, or $70,000 for this tax year. Your total adjusted gross income from other sources is $300,000, plus the $70,000 free withdrawal. At $370,000 AGI, this puts you in the 33% tax bracket. The 3.8% tax applies to the amount over $250,000, so in this example that would equate to $120,000. This puts an extra $4,560 NIIT-WIT tax burden upon you.

If you sell your real estate investment property in the same year with another $100,000 net profit, then that profit is added on top of the $120,000 amount making it $220,000 over the NIIT-WIT threshold. So, you could end up paying an extra $8,360 in NIIT-WIT taxes.

Odds are that your insurance agent and your real estate agent do not know each other either and they do not have any idea what the other is recommending.

3) Suppose you use an investment adviser who is also a licensed real estate agent. In example one above, the investment adviser knows your investments and knows your real estate properties. Because he knows that you have real estate for sale, he would never advise you to also convert your IRA to a Roth IRA in the same year.

4) Suppose you use an investment adviser who is also a licensed real estate agent. In example two above, the investment adviser knows that you bought the Variable Annuity from an insurance agent and that your income is already above the NIIT-WIT threshold. He would advise you NOT to take any withdrawals from the Variable Annuity when you are selling real estate in the same year, because all that is going to do is increase the NIIT-WIT tax. In addition, he would make you aware that by selling the real estate, then you are going to be increasing your exposure to the NIIT-WIT tax.

An investment adviser has a fiduciary duty to work in your best interests, even if they are also a real estate agent. Stockbrokers, insurance agents and real estate agents by themselves, do not have to offer their services in your best interests. The fact is that most of them are just looking to close a sale without regard to taxes. I doubt most of them even know about Section 1411 and its impact on the advice transactions that they recommend. This is why I call it the NIIT-WIT tax.

Personally, I believe in the team approach. At the very least, all of your financial professionals need to be involved in any and all of your major financial decisions that can potential increase your adjusted gross income.

Perhaps, an investment adviser who is also a real estate is a good place to go for advice.