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Your Last Opportunity to Reduce Your 3.8% Medicare Surtax For the Rest of Your Life

February 11, 2015 Business & Tax Blog Medicare Tax

IRS has extended to 2014 individual income tax returns a one-time opportunity to potentially permanently reduce exposure to the 3.8% Medicare Surtax enacted with Obamacare. With apologies for melodramatic tone, if you didn’t make the election on your 2013 federal income tax return and you don’t make the election on your original 2014 return, you may pay more 3.8% Medicare Surtax than necessary for the rest of your life. IRS extended the opportunity to 2014 returns because the final 3.8% Medicare Surtax rules were published near the beginning of the 2013 tax return filing season. There is no impetus to further extend the opportunity into future years, and the election generally cannot be made on an amended return.

The planning opportunity relates to income from “passive” business activities. “Passive” business income is subject to the 3.8% Medicare Surtax. Non-passive income is exempt. Income from an activity is not passive if the taxpayer meets certain hourly participation thresholds. An election to “group” activities makes it easier to satisfy the hourly participation thresholds to avoid passive activity status. Even if separate activities do not individually satisfy the participation thresholds, the grouped activities may nevertheless qualify and therefore exempt all the activities from the 3.8% Medicare Surtax.

The one-time opportunity is to change an individual’s “grouping” elections so the individual may convert a collection of passive businesses subject to the 3.8% Medicare Surtax into a single non-passive business exempt from the 3.8% Medicare Surtax. If the election is not made on an individual’s 2014 federal income tax return and the individual is subject to the 3.8% Medicare surtax in 2014, the existing grouping elections—or lack thereof—usually apply forever, and the opportunity to freely reclassify passive activities is permanently lost.

For more information concerning 3.8% Medicare Surtax planning, as well as planning to avoid related taxes: Taking a Second Bite of the 3 8 percent Medicare Surtax

E. John Wagner, II
jwagner@williamsparker.com
941-536-2037