Medicare Tax on Investment Income Starting in 2013

Beginning in 2013, couples filing jointly with more than $250,000 of MAGI ($200,000 for single filers) will owe 3.8% Medicare tax on the lesser of 1)net investment income or 2)MAGI (modified adjusted gross income) over the threshold. Net investment income includes interest, dividends, capital gains, annuities, rents, and royalties

For example, if you and your spouse had a total MAGI of $275,000—with $225,000 from earned income and $50,000 from investment income—you would owe the Medicare tax on the amount of investment income equal to your MAGI over the $250,000 threshold, or $25,000. On the other hand, if your $275,000 in MAGI consisted of $260,000 in earned income and $15,000 of investment income, you would owe the 3.8% tax on just $15,000.

One strategy to consider to help minimize your exposure to the new medicare tax would be to hold your income producing investments in tax-advantaged accounts, such as IRAs or 401(k) plans. However, remember that the income from traditional IRAs and 401(k)'s will be taxed when you withdraw it in retirement. However, Roth IRA's avoid all tax on withdrawal, including the potential 3.8% Medicare tax.

Remember that a capital gain on the sale of your home is also considered unearned income. However, the tax law excludes $500,000 in capital gains from the sale of a primary residence for a couple and $250,000 for a single filer.