Washington targets retirement tax breaks
The debate centers on whether the incentives only really benefit the wealthy, and whether the government should use tax breaks to encourage Americans to save for retirement.
This post comes from Joe Mont at partner site TheStreet.
Amid a backdrop of deficit concerns, debate over the future of Social Security and Medicare and a looming government shutdown, tax deferrals for retirement plans could be on the chopping block.
Talk in Washington, spearheaded by Congressional leaders including Speaker of the House John Boehner, R-Ohio, and Senate Budget Committee Chairman Kent Conrad, D-N.D., is that tax reform needs to tackle so-called tax expenditures. These incentives, which account for roughly $1 trillion in bypassed budget revenue each year, have been described by Conrad as a "back-door way of spending federal money."
Among these tax expenditures are exclusions for such items as mortgage interest deductions and employer contributions for health care. Post continues after video.
The deferral of taxes on contributions to IRAs, 401k plans, variable annuities and other retirement savings vehicles are among the incentives that could be reduced or eliminated. Typically, contributions to these accounts grow tax-free until they are withdrawn at retirement, then are taxed at what is usually a lower rate post-retirement.
Retirement-tied tax incentives will cost the government about $142 billion in forgone tax revenue this year and about $788 billion over the next five years. The value of the incentives is challenged by critics who claim 80% of the benefits are claimed by the top 20% of income earners.
Testifying before the U.S. Senate Budget Committee on March 9, Robert Greenstein, president of nonpartisan research organization the Center on Budget and Policy Priorities, spoke against the current system of tax expenditures and described the intended incentive for retirement savings as regressive.
"The costs of tax expenditures are large," he said. "In 2010 ... tax expenditures -- both individual and corporate -- amounted to $1.05 trillion. This greatly exceeded the cost of Medicare and Medicaid combined ($719 billion), Social Security ($701 billion), and non-security discretionary programs, which stood at $589 billion, a little over half of the cost of tax expenditures."
"As is the case with the mortgage interest deduction, high-income individuals receive the largest immediate benefit of the exclusion, even though they are the people most likely to save anyway in the absence of a government tax subsidy," he said.
The rich can often "reshuffle" assets to take advantage of tax breaks, rather than by increasing their savings, he said, noting that the Congressional Research Service has reported that "because higher earners would save much of their income even without tax incentives to do so, a substantial share of the revenue lost through the deduction for contributions to retirement plans does not result in a net increase in national saving."
"While tax cuts will always curry more favor with voters than new spending programs, Washington needs to call a truce to using the tax code for social or economic goals," Seth Hodge, president of The Tax Foundation said at that same hearing. "The consequence of trying to micromanage the economy as well as individual citizens' behavior through the tax code is a narrow tax base and unnecessarily high tax rates. These high rates are endangering America's global competitiveness and undermining the nation's long-term economic growth."
Putnam Investments CEO Bob Reynolds doesn't see it that way. During a speech at the Retirement Income Industry Association's 2011 Spring Conference in Chicago, he warned that going after these tax incentives would reduce the motivation to save at a time many Americans already face a shortfall in their retirement savings and lack confidence in their ability to enjoy a secure retirement.
"It would be a terrible policy mistake to curb federal profligacy by undermining incentives for private saving," he said. "America needs to move to solvency not just for the government, but at the household level too."
"With baby boomers now in or approaching retirement, the stakes are much higher than they were 25 years ago," he added. "We have to get budget deficits under control, but we have to do it the right way -- by encouraging savings that fuels investment, business formation and job creation. In the long run, the only tolerable way to overcome our deficit challenge is through economic growth, led by the private sector and fueled by Americans' own savings. Anything that undermines personal and workspace savings also undermines those goals. Congress should dismiss such ideas out of hand."
The Employee Benefit Research Institute, citing data from this year's Retirement Confidence Survey, is also against changes to the status quo and challenges the assertion that mainly the well-off benefit.
Jack VanDerhei, EBRI's research director, says these proposals would have "unintended consequences "
"Instead of reducing the contribution levels of those with larger taxable incomes, and hence higher marginal tax rates, the RCS results indicate that workers with low levels of household income would be most likely to cut their contribution -- in some cases completely," he says.
The survey found that more than three-quarters of full-time workers with household income of $15,000 to $25,000 say that having the ability to deduct their contributions to retirement savings plans is "very important." More than half of full-time workers saving for retirement said they would reduce the amount they save if they were no longer able to deduct retirement savings plan contributions from taxable income.
Among full-time workers who said they have less than $1,000 saved for retirement, 71.3 % indicated they would reduce the amount they save. Only 22% of full-time workers saving for retirement with household incomes of $100,000 or more say they would cut back.
States are also looking to boost their diminishing budgets by eyeing retirement-related tax changes. Michigan legislators, for example, are debating a proposal to levy a 4.25% income tax on pensions and 401(k) and IRA income.
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Go #$%^ yourselves.
This is completely unacceptable. My husband and I are a young couple trying to plan for our future. Our generation no longer has access to pensions. Social security, if it still exists when we retire, will be of no value to us because benefits are phased out according to income. That is, even though we pay the full FICA tax all year (our income is not high enough to progress out of it), we get proportionally less than low income workers. We are willing to let this go because we are able to save more of our own money to make up the difference. But now the government wants to take that from us too. Compounding interest is how wealth is created over the long term. (And when I say "wealth," I mean enough money to provide half of our pre-retirement income during retirement itself. I'm talking about basic subsistence, not sailing around the world on a yacht.) If our returns are constantly hampered by taxes every time we earn dividends or rebalance our funds, we will be screwed. Especially since poor fiscal responsibility by the government and some corporations is going to result in low stock and bond returns for our generation anyway. No pensions, worthless social security payment amounts, and now our private savings raided. No one paid for our college educations or gave us any special favors or advantages in life. Our parents were blue collar and we pulled ourselves up on our own. We have done everything by ourselves and are perfectly happy to continue doing so. But the government had better not cripple our ability to take care of ourselves by stealing our retirement savings on top of everything else. Unbelievable.
(And MSN needs to move this to their main page. I can't believe something this huge is only on the Money page.)
Consider that it was Congress that did NOT adjust the maximum deductible IRA contribution to match inflation for a very long time. They created the people at the lower end in a bind by not raising this minimum. And time is not on the side of someone 50+ once the rule is changed.
Congress knows that 2.7 trillion dollars of spending on Social Security and Medicare far exceed the actual federal budget of 1.1 trillion dollars. And the deficit is over 1 trillion dollars. So they figure let's look for bait among the voters who do not have the political will to vote them out of office. Aha! It is the people who try to be financially responsible/accountable. Something a member of Congress does not know how to do!!!
In regards to 401K or IRA tax breaks. They allow us not to pay taxes on our retirement.
How could something the Gov't doesn't collect in the first place be considered Gov't money that they count towards the deficit?
It is like saying every single penny the American people make is actually owned by the Gov't and the Feds are allowing us to keep some of it.
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