Barring repeal after the upcoming election, a 3.8% Medicare contribution tax will come into effect in 2013 to help pay for the Patient Protection and Affordable Care Act a/k/a Obamacare (the “Act”). There is a lot of false or misleading information on the Internet about this tax and its impact upon the sale of one’s home.
So, here’s a quick explanation:
WHAT IS TAXED AND WHO IS AFFECTED?
The Act creates a new Internal Revenue Code (IRC) Section 1411, which starting in 2013 will impose a Medicare contribution tax for each tax year equal to 3.8% of the lesser of:
(1) net investment income for such tax year; or
(2) the excess, if any, of the taxpayer’s modified adjusted gross income for the tax year over a threshold amount (i.e. $250,000 for taxpayers filing a joint return, $125,000 for married taxpayers filing a separate return, and $200,000 in all other cases).
Two things are worth noting here. First, only those with a modified adjusted gross income (MAGI) above the applicable threshold amount will be subject to the tax. So, if a single taxpayer has less than $200,000 in MAGI, that taxpayer will not be subject to any Medicare contribution tax, no matter how much “net investment income” he or she may have. Second, an individual will pay the 3.8% tax on the full amount of his or her net investment income only if his or her MAGI exceeds the threshold amount by at least the amount of the net investment income. That means if a single taxpayer that has more than $200,000 in MAGI and $100,000 in net investment income, that taxpayer will pay the 3.8% Medicare contribution tax on the entire $100,000 net investment income only if his MAGI exceeds $300,000.
HOW DOES THIS TAX IMPACT THE SALE OF ONE’S HOME?
Under the Act, “net investment income” includes the “net gain . . . attributable to the disposition of property.” So, the Medicare contribution tax can apply to gains realized on the sale of one’s home. However, given the present exclusions under the tax code, very few people will be subject to the tax. That is because the tax falls only on that portion of any gain that is “taken into account in computing taxable income,” which means that, under the existing tax code, the first $250,000 in gain on the sale of a primary residence (or $500,000 in the case of a married couple) is excluded from taxable income (note that this exclusion does not apply to the sale of vacation homes and rental properties).
Thus, as explained above, even if the gain (profit) upon the sale of your home exceeds the exclusion amounts, you will only be taxed on that excess gain to the extent that your MAGI exceeds the threshold amount. Stated another way, if you are a married couple whose MAGI exceeds $250,000, and if you make more than a $500,000 gain from the sale of your home, then you will be subject to the tax, but the tax will only be imposed on the lesser of (1) the amount of gain in excess of $500,000, and (2) the amount that your MAGI exceeds $250,000.
If Twomey Latham can be of any assistance to you on this or any other matter, please do not hesitate to give us a call.