What Is the Tax Rate for Passive Income? A Guide for Medical Professionals

The demanding nature of the medical field can lead to burnout, making the idea of earning money without actively trading your time for it very appealing. Passive income offers a path to greater financial freedom and a chance to diversify your wealth beyond your primary job. This can be especially helpful for those who are considering semi-retirement or want to have more control over their schedules in the future.

The IRS has specific rules to distinguish between active and passive income. In simple terms, passive income is money earned from a trade or business in which you don't "materially participate.”  Active income comes from a job where you are actively involved.

The IRS defines "material participation" using a series of tests. For example, if you spend more than 500 hours a year on a business activity, it's generally considered an active endeavor, not a passive one. This distinction is crucial because it affects how losses from those activities can be used to offset other income.

Some common types of passive income include:

• Rental income
• Dividends
• Royalties
• Capital gains
• Income from a business where you are a limited partner

While active income is typically taxed according to your normal income bracket, passive income taxes can vary depending on how the income is generated. In some instances, the tax rate on passive income can be more favorable.

For the 2025 filing year, ordinary income tax rates range from 10% to 37%. Most passive income, like rental income or royalties, falls under these regular brackets.

REITs and dividends—money distributed to shareholders from a company’s earnings—are taxed depending on whether they’re classified as ordinary or qualified. For example, if you invest in a healthcare REIT, its payouts are usually treated as ordinary income. But if you own stock in a pharmaceutical company and receive qualified dividends, those may qualify for the lower long-term capital gains rates of 0%, 15%, or 20%, depending on your total income.

Certain types of investment income may also be subject to an additional 3.8% levy, known as the Net Investment Income Tax (NIIT). More on this below.

When you sell an investment for a profit, you realize a capital gain. These profits are subject to capital gains taxes. The tax rate you pay depends on how long you've held the asset, your taxable income, and your filing status.

• Short-term capital gains: For assets you've owned for one year or less, the gain is considered "short-term." It's taxed at your normal, ordinary income tax rate, which for high earners can be as high as 37% in 2025.
• Long-term capital gains: For assets you've owned for more than a year, the gain is considered "long-term." These gains have much lower tax rates—either 0%, 15%, or 20% for the 2025 tax year, depending on your income.

Here are the 2025 long-term capital gains tax tiers for different filing statuses:

Additionally, many physicians exceed the income thresholds that trigger the 3.8% Net Investment Income Tax (NIIT). The NIIT can apply to investment gains, rental income from a second home, or dividends from your brokerage account.

For individuals, the NIIT applies to the lesser of your net investment income or the amount your modified adjusted gross income (MAGI) exceeds the following thresholds for the 2025 tax year:

• $200,000 for single or head of household filers
• $250,000 for married filing jointly or qualifying widow(er) filers
• $125,000 for married filing separately filers

If you have investment income and your MAGI is less than the above amounts, you will not need to pay NIIT.

All things considered, high earners in the top bracket who are subject to the 3.8% net investment income tax (NIIT) would face long-term capital gains tax rates as high as 23.8%. This is why it's so important to have a solid tax strategy in place.

Tax example: Medical professional with wages and dividends

Let’s assume a single filer physician has $225,000 in wages and $75,000 in dividends (a net investment income of $75,000). Their MAGI (wages plus NIIT/dividends) is $300,000.

Because the MAGI exceeds the threshold level for a single filer under NIIT ($200,000), the single filer is subject to the tax.

NIIT will take the lesser of:

• The amount the taxpayer exceeds the threshold ($300,000 minus $200,000 = $100,000) or
• Their investment income ($75,000)

Since $75,000 is less than $100,000, the taxpayer’s NIIT will be calculated using the $75,000 profits. This results in a tax of $2,850 (3.8% multiplied by $75,000).

Income earned from vacation rentals is taxed as ordinary income, but you can deduct expenses, property tax, depreciation, insurance, and mortgage interest, which lowers your tax burden.

The biggest tax benefit, however, often comes from depreciation. The IRS allows you to spread out the cost of the property over 27.5 years to account for the wear and tear on the investment over time. If you purchase a rental property, you can deduct a portion of its value each year from your rental income, even if the property is increasing in value.

That said, when you eventually sell the property, any depreciation you claimed over the years is "recaptured" and taxed at a special rate of up to 25%.

As a high-income earner, effective tax planning is essential to preserve your wealth. Here are some strategies that can help reduce your tax liability on passive income:

• Professional tax planning: The tax code is complex and constantly changing. A qualified tax professional who understands the unique challenges and opportunities faced by high-earning medical professionals can help you navigate NIIT, phaseouts, and deduct eligible expenses related to passive income, further reducing your taxable income.
• Long-term holds: Hold investments longer than one year to qualify for the more favorable long-term capital gains tax rates (0%, 15%, or 20%) instead of being taxed at your higher ordinary income tax rate.
• Tax loss harvesting: If you have investments that have lost value, you can sell them to "harvest" the loss. These losses can be used to offset any capital gains you have and can even be used to deduct up to $3,000 from your ordinary income. Any remaining losses can be carried forward to future years.
• Investing strategically: Fund tax-advantaged accounts (401(k), IRA, HSA, 529) to avoid capital gains taxes on the profitable sale of investments.

If you’re looking to establish a source of passive income, BHG Financial can provide you with up to $500,000^1,2 for real estate investment, business acquisition, practice expansion, or debt restructuring as part of a long-term passive income plan.

We offer flexible repayment terms of up to 12 years¹, providing you with highly affordable monthly payments, and you’ll receive premium concierge service throughout the funding process.

View your personalized estimate today. Applying won’t affect your credit score.

How does NIIT affect doctors and specialists?

The Net Investment Income Tax (NIIT) affects doctors and specialists who have a modified adjusted gross income (MAGI) above the set thresholds ($200,000 for single filers, $250,000 for married filing jointly) and earn passive income. This means your passive income is subject to your regular income tax rate plus an additional 3.8% NIIT.

Are REITs or index funds more tax efficient for high earners?

This depends on how you invest. REITs can be a great way to gain exposure to real estate without direct ownership, but they often pay out high dividends that are typically taxed as ordinary income. Index funds, on the other hand, are taxed at the gains rate, which can be more tax-efficient, especially if you hold them for more than a year to benefit from lower long-term capital gains tax rates.

Is rental property income taxed the same as dividends?

No. Rental income is considered ordinary income (up to 37% for the highest earners) and may offer deductions/depreciation to offset what you owe each year. Dividends, particularly "qualified dividends," may be eligible for the lower long-term capital gains tax rates (up to 20% for the highest earners). The NIIT may apply to both.

Can medical professionals deduct passive income losses?

Yes, medical professionals can deduct passive income losses to offset money earned from other passive income sources (e.g., rental income, dividends, or gains from another investment). If your passive losses are larger than your passive income in a given year, the unused amount carries forward. You can apply it against future passive income or gains when you sell the investment.

If you “actively participate” in managing rental property (screening tenants, approving repairs, etc.) and your income is under certain thresholds, you may be able to deduct up to $25,000 of rental losses against active income. But most high-earning medical professionals don’t qualify for this exemption because their MAGI exceeds $150,000).

What’s the best way to balance active and passive income for tax purposes?

The best strategy is to work with a tax advisor who can help you optimize and diversify your investments. By carefully planning and using strategies like tax-loss harvesting and contributing to tax-advantaged accounts, you can legally minimize your overall tax burden.