Tax Incentives for Retirement Savings Under Congressional Microscope
by: Dennis Zuehlke, Compliance Manager, Ascensus
Tax incentives for retirement savings are coming under the microscope as Congress considers comprehensive tax reform.
The House Ways and Means Committee held a hearing on April 17, 2012, on possible reforms to tax-favored retirement savings plans that might be considered as part of comprehensive tax reform. In opening remarks, House Ways and Means Committee Chairman Dave Camp (R-MI) stated that the purpose of the hearing was to explore whether, as part of comprehensive tax reform, various reform options could achieve greater simplification and increased participation, particularly by low- and middle-income taxpayers, and whether the current tax benefits are effective and properly targeted. He emphasized that the hearing was not about drawing conclusions, but making sure that Congress has the information it needs as it approaches comprehensive tax reform.
Testimony from expert witnesses at the hearing focused on ways to strengthen and simplify the current system of retirement savings plans, while urging the committee to protect tax incentives for individuals and employers that contribute to retirement plans. One of the witnesses pointed out that, unlike other tax incentives, retirement savings incentives simply defer income from tax, rather than excluding it from tax permanently; and that every dollar that is exempt from tax now will be taxed at a later date.
Chairman Camp indicated that he has yet to draw any conclusions about what Congress should do about tax incentives for retirement savings. He did not suggest trimming any benefits, noting that taxpayers of all income levels benefit from retirement savings plans, citing IRS data that indicates that 38 percent of defined contribution plan participants earn less than $50,000 per year.
Lawmakers and policy experts expect that efforts to overhaul the tax code could begin as early as next year. It is inconceivable that any plan to reduce the size of the deficit or reform the current tax code would not consider changes to the tax incentives for retirement savings, given the cost to the Treasury of these incentives. The Joint Committee on Taxation estimates that the exclusion of pension contributions and earnings in defined benefit and defined contribution plans amounts to $515 billion over the five-year period from 2010 to 2014. IRAs will cost the Treasury another $109.5 billion over the same five-year period. Tax incentives for retirement savings cost the Treasury more than the deduction for home mortgage interest, and are second only to the exclusion of employer contributions for healthcare.
There are currently no bills in Congress that would reduce or eliminate retirement savings incentives, but a number of proposals have been floated over the past year.
The Obama administration proposed in its Fiscal Year 2013 Revenue Proposals to trim tax incentives for contributions to IRAs and defined contribution retirement plans made by higher-income taxpayers.
The Senate Finance Committee last September held a hearing on tax reform and retirement savings, specifically looking for ways to encourage greater participation in 401(k) plans and IRAs. William Gale, co-director of the Urban-Brookings Tax Policy Center and an expert witness at the hearing, proposed to reinvent 401(k) plans by replacing the current deduction for contributions with a flat-rate refundable credit that would be deposited directly into the 401(k) plan participant’s account. Dr. Gale argued that a flat-rate credit improves incentives for households to participate in retirement savings plans and would raise $450 billion in revenue over the next decade.
The Joint Select Committee on Deficit Reduction—the congressional “super committee” that was charged with finding $1.5 trillion in federal spending cuts—considered a proposal to cap retirement savings account contributions at the lesser of $20,000 or 20 percent of compensation. Although the super committee was unable to reach a consensus and provide a deficit reduction proposal to Congress, the proposals were widely distributed on Capitol Hill.
Concern over the size of the federal budget deficit is likely to be a key issue in the upcoming presidential election, and regardless of the outcome of the election, efforts to overhaul the tax code could begin as early as next year. Given the cost to the Treasury, tweaking retirement savings incentives will certainly be considered as part of any comprehensive plan. The question that remains to be answered is whether retirement savings incentives will be sacrificed on the altar of deficit reduction and tax reform. Stay tuned.
Dennis Zuehlke is Compliance Manager for Ascensus in Middleton, Wisconsin. Mr. Zuehlke provides clients with technical support on tax-advantaged accounts (including individual retirement accounts, health savings accounts, simplified employee pension plans, and Coverdell education savings accounts), and information reporting and tax withholding issues. Mr. Zuehlke is a frequent national speaker on compliance-related issues and retirement savings trends within the financial services industry.
Mr. Zuehlke attended Marquette University and graduated from the University of Wisconsin. Prior to joining Ascensus, he held a similar position with the Credit Union National Association.
Ascensus delivers a full range of retirement plan services—including plan administration, plan design and maintenance, consulting, web-based tools and content, software solutions, education and training, forms and documents, and technical resources—to approximately 9,000 financial organizations nationwide. www.ascensus.com
