Understanding the Net Investment Income Tax (NIIT)

What is the NIIT?

The Net Investment Income Tax (NIIT) is a 3.8% federal tax on certain investment income for higher-income taxpayers. It was enacted in 2013 as part of the Affordable Care Act, and it stacks on top of any other income tax, capital gains tax, or AMT you already owe on the same income.

Practical effect: a taxpayer in the top long-term capital gains bracket pays 20% federal LTCG tax plus an additional 3.8% NIIT — a combined 23.8% federal rate on long-term capital gains. The same 3.8% layer applies to interest, dividends, rental income, and most other forms of investment income.

The tax is computed and reported on Form 8960 (Net Investment Income Tax), filed alongside your annual Form 1040.

Who Owes NIIT?

NIIT applies once your Modified Adjusted Gross Income (MAGI) exceeds these thresholds, by filing status:

Filing status	MAGI threshold
Single	$200,000
Head of household	$200,000
Married filing jointly	$250,000
Married filing separately	$125,000
Qualifying surviving spouse	$250,000

Two important things about these thresholds:

• They are not indexed for inflation. Set in statute (IRC §1411) at enactment in 2013 and unchanged since. As wages and asset values rise, an increasing share of taxpayers crosses these thresholds each year.
• MAGI is usually the same as AGI. The “modified” adjustment mainly adds back the foreign earned income exclusion (Form 2555) — relevant only if you live abroad and exclude foreign wages. For nearly everyone else, MAGI = AGI.

If your MAGI is at or below the threshold for your filing status, you owe no NIIT regardless of how much investment income you have.

What Counts as Investment Income

For NIIT purposes, “investment income” includes:

• Interest — taxable interest from savings accounts, CDs, taxable bonds, and similar instruments. Tax-exempt municipal bond interest is not included.
• Dividends — both ordinary and qualified dividends. (Qualified dividends still get preferential rates for income tax purposes, but get no break for NIIT.)
• Capital gains — both long-term and short-term, from selling stocks, mutual funds, ETFs, investment real estate, and similar property. Including gains from RSU sales, ISO sales, and most equity-comp dispositions.
• Non-qualified annuity distributions
• Rental and royalty income — generally treated as investment income, unless it rises to the level of a non-passive trade or business (the “real estate professional” or material participation tests under IRC §469).
• Passive partnership and S-corporation income — if you don’t materially participate in the business
• CFC and PFIC income — controlled foreign corporations and passive foreign investment companies (relevant if you hold foreign-domiciled investments)

What Doesn’t Count

Several common types of income are not subject to NIIT:

• Wages and salaries
• Self-employment income
• Distributions from qualified retirement plans — 401(k), 403(b), Traditional IRA, Roth IRA
• Gain on the sale of a primary residence covered by the §121 exclusion (up to $250K single / $500K married)
• Tax-exempt interest (e.g., municipal bonds)
• Active business income from a trade or business in which you materially participate
• Social Security benefits
• Veterans’ benefits

A practical note: wages and self-employment income are subject to a separate 0.9% Additional Medicare Tax at similar income thresholds, computed on Form 8959. NIIT and the Additional Medicare Tax serve a parallel purpose — but they apply to different types of income, and many high earners owe both.

Reducing Investment Income with Investment Expenses

NIIT applies to net investment income — investment income minus certain deductible expenses properly allocable to that income. Allowable deductions on Form 8960 (Part II) include:

• Investment interest expense — interest paid on money borrowed to make investments (margin interest, for example). Limited under IRC §163(d) to your investment income for the year.
• State, local, and foreign income tax allocable to investment income — the portion of your state/local/foreign income tax that’s attributable to the investment income itself. Usually computed proportionally: (investment income ÷ total income) × state/local/foreign tax paid.
• Miscellaneous investment expenses properly allocable to investment income — items like investment advisory fees and custodial fees, to the extent allowable under current law.

These expenses reduce your investment income for NIIT purposes only — they don’t necessarily affect your regular taxable income, where the itemized-deduction rules differ. It’s possible to owe NIIT on net investment income that’s smaller than your gross investment income because of these allowable expenses.

How NIIT Is Calculated

The 3.8% NIIT applies to the lesser of:

1. Your net investment income (Form 8960 Line 12 — investment income from the categories above, less allowable expenses), or
2. The amount your MAGI exceeds your filing-status threshold (Form 8960 Line 15)

Then: NIIT = 3.8% × lesser of (1) or (2)

This means you only pay NIIT on the portion of investment income that’s effectively “above the threshold.” If you have $100,000 of investment income but your MAGI is just $1,000 over the threshold, your NIIT is only 3.8% × $1,000 = $38.

A Concrete Example

Imagine a married couple filing jointly with the following 2026 income:

• W-2 wages: $400,000
• Long-term capital gains from selling RSU shares: $80,000
• Taxable interest: $5,000
• Ordinary dividends: $15,000

Total AGI/MAGI: $500,000 (assuming no above-the-line deductions, for simplicity).

Step 1: Investment income LTCG ($80K) + interest ($5K) + dividends ($15K) = $100,000

Step 2: Investment expenses (assume $4,000 of state income tax allocable to the investment income, no other expenses) Net investment income = $100,000 − $4,000 = $96,000

Step 3: MAGI excess over threshold $500,000 − $250,000 (MFJ threshold) = $250,000

Step 4: NIIT base = lesser of $96,000 (net investment income) or $250,000 (MAGI excess) = $96,000

Step 5: NIIT = 3.8% × $96,000 = $3,648

This $3,648 is owed in addition to the regular federal income tax and the 20% LTCG tax already due on the $80K of capital gains. Combined federal rate on those LTCG: 20% + 3.8% = 23.8%.

Strategies to Reduce NIIT Exposure

Several approaches may help reduce or avoid NIIT, depending on your situation:

• Time capital gains carefully. Realizing capital gains in years when your MAGI stays below the threshold avoids NIIT entirely. This is one of the cleanest planning moves available — especially during gap years (sabbaticals, retirement transitions, pre-retirement Roth conversion windows).
• Donate appreciated stock instead of selling it. Donating appreciated assets to a qualified charity avoids both regular capital gains tax and NIIT on the donated portion, while still giving you a charitable deduction at full FMV.
• Use tax-exempt municipal bonds for fixed-income allocation. Municipal bond interest is not investment income for NIIT purposes — and is also exempt from federal income tax.
• Maximize tax-advantaged retirement accounts. Income earned inside a 401(k), IRA, HSA, or Roth account is not investment income for NIIT purposes. The more of your portfolio sits inside these wrappers, the less is exposed to NIIT each year.
• Materially participate in business activities. Active income from a trade or business in which you materially participate is not investment income. This is most relevant for owners of pass-through entities who want their business income to escape NIIT.

The Takeaway

NIIT is a 3.8% surtax on investment income for taxpayers above $200K MAGI ($250K joint, $125K MFS). It applies in addition to regular income tax, capital gains tax, and AMT — making the effective federal rate on long-term capital gains 23.8% for high earners. Because NIIT is computed on the lesser of net investment income or MAGI excess over the threshold, taxpayers just over the threshold pay relatively little. Common levers to reduce NIIT include timing capital gains across years, donating appreciated stock, holding more wealth in tax-advantaged accounts, and using municipal bonds for fixed-income allocation.