Give Up Tax Breaks For Retirement Savers?
Give Up Tax Breaks For Retirement Savers?
The late Senator Everett Dirksen is commonly considered to have quipped about how government spending can get out of control, "A billion here, a billion there, and pretty soon you're talking real money."
Now the U.S. finds itself over $16 trillion in debt and has run deficits of over $1 trillion in each of the last four years . The tax increases as a resultof the fiscal cliff end game won't provide much additional revenue to balance the budget. Further, by punting the sequestration a few months down the road, failing to control borrowing by suspending the debt ceiling, and delaying passing a full-year budget for fiscal-year 2013, Congress has yet to make any of the hard choices necessary to solve our nation's fiscal problems and reduce the deficit.
Policy makers are now looking to a variety of so called " tax expenditures " as potential ways to increase tax revenues. One such tax subsidy that might be on the chopping block is the tax incentive for retirement saving accounts. According to the congressional Joint Committee of Taxation, tax subsidies for contributions to retirement saving accounts totaled $90 billion in 2012, $136 billion if you include all deferrals and exclusions of pension contributions of earnings to both defined benefit and defined contribution plans.
Encouraging people to save through tax-advantaged vehicles has been the gospel of financial planners and retirement experts for decades. Gerri Walsh , the president of the Finra Investor Education Foundation recently spoke on PBS' Night Business Report on how to save money on your taxes and increase your retirement savings by investing in an IRA or 401(k). Personally, I'm a big fan of these types of tax-advantaged retirement arrangements and have even spoken about some of the tax benefits and implications in a previous MarketWatchcolumn .
Yet a recent research report by HelloWallet, a company that uses research, behavioral economics and technology based modeling to deliver financial advice, shows that over 25 % of households that have a defined contribution plan for retirement have drawn on their savings for non-retirement purposes. Commonly called "leakage," these loans, cash-outs or early withdrawals from tax advantaged retirement vehicles are estimated to total $70 billionannually.
Though non-retirement related withdrawals might be used for a variety of purposes, such as financial hardship or crises, the public policy intent of the tax advantage is to encourage savings for retirement. Further, the HelloWallet report points out that since employers are often subsidizing employee retirement plans through matching contributions that now total over $118 billion a year, the increased reliance on retirement savings for non-retirement financial needs suggests that perhaps there is "a broader misalignment between the advanced financial needs subsidized by employers and the basic, unmet financial needs of workers."
Tax-advantaged retirement plans are also under scrutiny as they tend to overly benefit higher-income workers . Since the tax incentives are structured as deductions, not credits, the higher your marginal tax bracket the greater the tax savings and the incentive to save for retirement through a tax deferred retirement vehicle. Somereform proposals would further limit the deductible amount for higher-income earners, change the structure from a deduction to a credit, or eliminate the tax preference for retirement savings altogether.
Readers of RetireMentors know I'm a big proponent of helping people make informed decisions about retirement issues . In fact, I'm sure all the contributors who participate in the RetireMentors project want to give the best advice possible so that everyone can have a meaningful, dignified and secure retirement. I've also testified before Congress being in favor of broadening the tax base, by reducing special favors in the tax code, in exchange for lower marginal tax rates. However, I'm not convinced that we should do away with incentives to encourage saving for retirement.
So I have a favor to ask of RetireMentor readers. I'd like to start a dialogue on this page in the comments section as to what reforms policy makers should consider, if any, with respect to the current tax treatment of retirement savings vehicles.
Should the tax preference be eliminated? Should we change the rules to make it harder to take out money before retirement by reducing options for leakage? Should the structure be changed to a limited tax credit instead of a deduction? Should we do more to encourage and incentivize lower-income people to save for retirement? Perhaps we should institute a Savers Credit to help those who are in most need of help saving for retirement? What about encouraging more people to participate through automatic enrollment options, which current researchsuggests could do more to help people save for retirement? Maybe we should just leave the current system alone?
Recent estimates place the total tax revenue "loss" to the federal government from combined individual and corporate tax expenditures at $1.3 trillion. All of a sudden, a billion here, a billion there, and pretty soon it's no surprise that policy makers might be looking to eliminate or reform the tax break for retirement savings to try to raise more revenue.
I welcome your thoughts and suggestions.Comments