Net Investment Income Tax: The 3.8% Cliff Most Mid-Year Plans Miss
A signed Roth conversion plan is not a coordinated one. The Net Investment Income Tax is the fifth cliff most mid-year audits miss, and the trigger sits inside MAGI, not the investment income itself.
Hosted by Rob Lovaglio · Best Advice Podcast Guys · Question submitted by Landon, Sarasota, FL · July 14, 2026
About This Episode
Who this conversation is for
In this episode of Best Advice Podcast Guys, host Robert Lovaglio sits down with certified financial planner Austen Jacks, CFP® to break down the Net Investment Income Tax (NIIT) — the additional 3.8% tax that can apply once your income crosses the $200,000 threshold.
What the episode covers
Many high earners focus on capital gains rates, dividends, and overall investment returns. However, fewer people realize there may be an additional 3.8% tax layered on top of those gains. Austen explains who the Net Investment Income Tax applies to, how the $200K threshold works, how modified adjusted gross income (MAGI) factors in, and why business owners and executives need to pay attention.
Why it matters if you're approaching $200K
They also discuss practical planning — including how selling private company stock, capital gains timing, and investment income structure can impact your total tax liability. For any high-income earner or investor approaching that $200K mark, this conversation could save you from an unexpected tax surprise.
The Belief Most High Earners Bring to the Net Investment Income Tax
Most high earners plan for the taxes they can name — long-term capital gains, ordinary income, qualified dividends. Rates known, bracket known, return filed. However, what's left rarely gets modeled until it shows up on the return.
The risk runs the other way. Households above $200,000 MAGI who assume the bracket rate covers everything are usually the most exposed. In fact, Congress enacted the 3.8% Net Investment Income Tax through the Affordable Care Act. It took effect January 1, 2013. Since then, it's stayed off most bracket charts. As a result, most people first meet it on their tax return.
The First Assumption Most Households Get Wrong
The assumption most households make is that a Roth conversion priced at their marginal bracket settles the tax bill. For example, a $100,000 conversion at 24% costs $24,000. Clean math. However, what's missing from that number is that the conversion also raises MAGI. Once MAGI crosses $200,000 for a single filer (or $250,000 for a married couple), the 3.8% Net Investment Income Tax kicks in. Then it pulls other investment income into the surtax — dividends, taxable interest, realized gains sitting quietly outside the audit.
The conversion income itself doesn't get hit with NIIT. Roth conversions count as ordinary income, not net investment income. So what gets hit is everything else in the portfolio — because the conversion pushed MAGI over the threshold. In short, the Net Investment Income Tax is a coordination problem more than a rate problem.
The Five Cliffs That Bind a Mid-Year Roth Conversion
Five thresholds bind a mid-year Roth conversion: bracket capacity, the IRMAA cliff, the RMD onset window, the 0% long-term capital gains bracket, and the Net Investment Income Tax threshold. Each one is a different math problem. However, solve them in isolation and the answers usually contradict each other. For a household holding $1M to $3M in assets, the audit sizes the conversion against all five together. Because leaving one out changes what fits inside the others.
"Tax decisions don't fail from prediction. They fail from coordination across years."
The Coordination Sequence — Five Steps, Year by Year
- Lock the IRMAA ceiling first. The 2-year MAGI lookback drives 2028 Medicare premiums. Confirm the ceiling before sizing anything else.
- Reserve 0% LTCG room next. Up to $98,900 taxable income (MFJ) or $49,450 (single) — appreciated assets benefit more from realization at zero tax than the same income benefits from being inside a Roth for most $1M–$3M households.
- Size the Roth conversion against remaining bracket capacity. Whatever space is left after IRMAA and LTCG is the conversion capacity for this year.
- Subtract the Net Investment Income Tax drag. If the conversion pushes MAGI past $200,000 single or $250,000 MFJ, model the 3.8% NIIT on the lesser of net investment income or the amount MAGI exceeds the threshold.
- Re-audit every twelve to eighteen months. Confirm all five cliffs still model the same way — thresholds move, income moves, RMD onset does not wait.
What is the Net Investment Income Tax?
The Net Investment Income Tax (NIIT) is a 3.8% surtax on net investment income for households with modified adjusted gross income above $200,000 (single), $250,000 (married filing jointly), or $125,000 (married filing separately). Congress enacted it through the Affordable Care Act; it took effect January 1, 2013, and the thresholds have stayed flat since with no inflation adjustment. The tax applies to the lesser of net investment income or the amount MAGI exceeds the threshold.
What Carries the Episode
Landon from Sarasota asked the question CPAs field every April: "What is Net Investment Income Tax? How does that apply?" Austen's answer went past the 3.8% rate — because the rate isn't what makes NIIT a planning problem. The trigger is. In fact, MAGI is where Roth conversions, realized gains, rental income, and dividends all end up on the same line. So that's where the coordination happens or doesn't.
Toward the end of the episode Austen catches a specific exemption most executives don't hear about until it's too late. The carve-out applies to privately held company stock through the material-participation rule. For example, an executive who sells while still employed and actively involved in the business can avoid the Net Investment Income Tax on the gain entirely. However, the same sale six months after employment ends often triggers it. That's a coordination window with a clock, and most households don't know the clock exists.
"The Net Investment Income Tax is the cliff most mid-year audits miss. The conversion itself doesn't trigger it. The MAGI jump the conversion causes often does."
"A conversion sized against bracket alone is not a coordinated Roth strategy — sizing it against IRMAA, RMD onset, 0% LTCG, and the Net Investment Income Tax is."
Next month — August 2026 — we move to healthcare cost coordination: Medicare enrollment, IRMAA planning (informed by this month's tax audit), supplemental coverage gaps, and long-term care exposure.
Full Conversation Transcript
There is a moment for successful people when not much changes from an income or investment standpoint, but the tax treatment shifts dramatically. The income holds. The portfolio holds. The tax outcome does not. That moment is often the arrival of the Net Investment Income Tax — a 3.8% surtax that most high earners plan around only after their return has already been filed.
What Is the Net Investment Income Tax?
The Net Investment Income Tax is an additional tax that high-income earners can face when they cross a specific income threshold and hold investment income outside of wages. That includes interest, dividends, capital gains, rental income, royalty income, and non-qualified annuity income. In other words, the categories most retirement and taxable-brokerage portfolios generate.
Congress enacted the tax through the Affordable Care Act, and it took effect January 1, 2013. Since then, the thresholds have stayed flat with no inflation adjustment. As a result, more households cross into NIIT territory each year as nominal income grows.
The MAGI Thresholds
For individual filers, the modified adjusted gross income threshold is $200,000. Married couples filing jointly and qualifying surviving spouses face a $250,000 threshold. Meanwhile, couples filing separately drop to $125,000. Above these thresholds, when a household holds investment income from stocks, bonds, funds, or similar sources, the 3.8% surtax may apply.
The Lesser-Of Rule
The tax does not apply to all investment income above the threshold. Instead, it applies to the lesser of two figures — the household's net investment income for the year, or the amount by which MAGI exceeds the threshold. In short, whichever number is smaller becomes the base for the 3.8%.
The $225,000 + $100,000 Example
An individual filer earns $225,000 in modified adjusted gross income and realizes a $100,000 long-term capital gain during the year. So MAGI exceeds the $200,000 threshold by $25,000. The net investment income is $100,000.
As a result, NIIT applies to the smaller of the two — $25,000. The tax owed is 3.8% × $25,000, or $950.
However, if the household's capital gain were only $10,000 with the same MAGI, NIIT would apply to $10,000 (the smaller figure). Then the tax owed would be $380. In short, the lesser-of rule concentrates NIIT exposure on households where both figures are large.
Why This Matters for Roth Conversions
A Roth conversion is not itself investment income for Net Investment Income Tax purposes. In fact, conversion income counts as ordinary income for federal tax, not net investment income. However, the conversion raises MAGI, often materially. As a result, that higher MAGI can drag other investment income into the surtax.
For example, a household with $180,000 MAGI and $60,000 of net investment income owes no NIIT — MAGI sits below the threshold. But a $100,000 Roth conversion pushes MAGI to $280,000 for the year.
Then the 3.8% applies to the lesser of $60,000 (net investment income) or $30,000 (MAGI over the $250,000 MFJ threshold). The smaller figure — $30,000 — becomes the base. So the tax owed is $1,140. In short, that $1,140 often goes unmodeled by households who size the conversion against bracket capacity alone.
The Material-Participation Exemption
A nuance in the tax code creates an exemption in specific situations. For example, gains from the sale of privately held company stock can escape the 3.8% NIIT if the seller materially participates in the business. In short, passive investment income triggers NIIT. However, income from active business participation does not.
So consider an executive who owns stock in a private company where they work and meets the IRS material-participation tests. A sale of that stock while still employed can bypass the surtax. However, the same sale after employment ends — when the ownership becomes passive — may pull into the 3.8%.
When Sale Timing Matters
The instinct for many executives is to wait until after employment ends to sell. The assumption: lower income after separation reduces the overall tax burden. However, in practice, that logic often fails on the Net Investment Income Tax side. Executives in that position typically hold substantial other investment income. As a result, once the material-participation exemption disappears, the 3.8% hits the private-company gain that would have escaped it while the executive was still employed.
The coordination decision runs the other way. In fact, for many executives, selling the stock while still employed — even if it means a higher ordinary income year — avoids the NIIT drag on the private-company gain. As a result, it lands the household in a better multi-year position.
Working with the Right Team
The Net Investment Income Tax sits inside a section of the tax code that most households do not encounter until they run into it. However, CPAs and CFPs collaborating on a mid-year audit can model the interaction between MAGI, investment income, Roth conversions, and material participation together — before any execution. In short, the audit output is the plan; the execution follows. As a result, households that wait until year-end to run the numbers often lose the option to size the conversion around the NIIT threshold.
Disclaimer
This content is provided for educational and informational purposes only and should not be considered legal, tax, or investment advice. Always consult qualified legal, tax, and financial professionals regarding your specific circumstances before making tax planning decisions.
Hosted by Rob Lovaglio of Best Advice Podcast Guys, with guest Austen Jacks, CFP®, of Security Financial Management. The planning guidance in this episode is provided by the credentialed guest; the host does not provide financial, legal, or tax advice.
The information presented is for educational purposes only and does not constitute legal, tax, or investment advice. Securities offered through Kestra Investment Services, LLC, member FINRA/SIPC (Kestra IS). Investment advisory services offered through Kestra Advisory Services, LLC (Kestra AS). Security Financial Management, Bluespring Wealth Partners, LLC, Kestra IS and Kestra AS are affiliated through common ownership by Kestra Holdings. Tax planning strategies should be coordinated with qualified legal counsel and tax professionals familiar with your specific situation. Past performance is not indicative of future results. Form ADV and investor disclosures: adviserinfo.sec.gov.