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Surtax on Unearned Income


A surtax called the Unearned Income Medicare Contribution Tax is imposed on individuals, estates, and trusts.

Individuals - For individuals, the surtax is 3.8% of the lesser of:

1. The taxpayer’s net investment income or

2. The excess of modified adjusted gross income over the threshold amount ($250,000 for a joint return or surviving spouse, $125,000 for a married individual filing a separate return, and $200,000 for all others)


Potential Double Whammy

This surtax is in addition to the 0.9% hospital insurance (HI) tax imposed on high-income taxpayers. Thus, taxpayers with both unearned income and high wages or self-employment income could be hit by both taxes.


Estates & Trusts - For an estate or trust, the surtax is 3.8% of the lesser of:

1. Undistributed net investment income or

2. The excess of AGI over the dollar amount at which the highest income tax bracket applicable to an estate or trust begins. 

Generally Won’t Apply to Simple and Grantor Trusts

Simple trusts require all income to be distributed and don’t provide for charitable contributions.  Income from grantor trusts is taxable to the owner (grantor) of the trust.


Net Investment Income - “Net” investment income is investment income reduced by allowable investment expenses.

Investment Income - Investment income includes:
  • Income from interest, dividends, annuities, and royalties,

  • Rents (other than derived from a trade or business),

  • Capital gains (other than derived from a trade or business),

  • Trade or business income that is a passive activity with respect to the taxpayer, and

  • Trade or business income with respect to trading financial instruments or commodities.      
Exclusions from Gross Income - For surtax purposes, gross income doesn't include excluded items, such as interest on tax-exempt bonds, veterans' benefits, and excluded gain from the sale of a principal residence.

The surtax does not apply to:
  • Income from other trades or businesses conducted by a sole proprietor, partnership, or S corporation (Committee Report),

  • A nonresident alien,

  • A trust of all the unexpired interests in which are devoted to charitable purposes,

  • A trust that is tax-exempt under Code Sec. 501,

  • A charitable remainder trust tax-exempt under Code Sec. 664 or

  • Distributions from qualified retirement plans.
Disposition of a Partnership Interest or Stock in an S corporation - Gain or loss is taken into account only to the extent gain or loss would be taken into account by the partner or shareholder if the entity had sold all its properties for fair market value immediately before the disposition. Thus, only net gain or loss attributable to property held by the entity which is not property attributable to an active trade or business is taken into account.

Net Investment Income for Most Taxpayers

Thus, for taxpayers that don’t engage in passive activities or a commodities trading business, net investment income will include non-business income from interest, dividends, annuities, rents, and capital gains less allowable deductions.


Example – Dave, a single taxpayer, has taxable investment income of $25,000 and no investment expenses.  Thus, his net investment income is $25,000.  His AGI for the year is $220,000.   The amount subject to the 3.8% surtax is the lesser of the net investment income ($25,000) or the amount by which his AGI exceeds the $200,000 threshold for single individuals, which in Dave’s case is $20,000 ($220,000 - $200,000).  Thus, Dave’s surtax is $760 (3.8% of $20,000).
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