Dividends and section 1411 surtax
Corporate shareholders must pay an additional 3.8% tax on dividends, the IRS said in an internal memo made public in May.
The US began collecting an extra 3.8% tax in 2013 from individuals on “net investment income” to help fund a Medicare expansion. The tax is in section 1411 of the US tax code. It applies to most interest, dividends, capital gains, rents and royalties received by individuals and to other income from any business conducted through a partnership or other pass-through entity in which an individual is considered a passive investor. (For more details, see “A new US tax on investment income” in the February 2013 NewsWire.)
The IRS discovered on audit that a corporation was paying personal expenses of its majority shareholder. It treated the payments as dividends to the shareholder. The IRS office in Los Angeles, where the shareholder is located, asked for advice from Washington whether the shareholder had to pay not only regular income taxes but also the 3.8% tax on the dividend. The IRS national office responded “yes” in an internal memo. The memo is CCA 202118009.
The shareholder argued that he should not be subject to the extra tax because he was not a mere passive investor. He worked more than 500 hours a year in the business as an employee of the company. The IRS said his personal involvement with the business would be relevant only if the business were a partnership rather than a corporation. The tax must be paid on all dividends.
The tax applies to anyone earning more than $250,000 a year in adjusted gross income for married couples filing joint returns. The threshold is $200,000 for single persons. The income levels are not adjusted for inflation, so more people will become subject to the tax over time.