As the contents of President Obama’s 2014 fiscal year budget proposal were revealed, it became evident that it would break new ground with one of its provisions for retirement saving. Most attention-grabbing was a plan for a per-taxpayer retirement accumulation cap, tied to a projected future benefit. The motive for this is to generate revenue by limiting tax-advantaged saving. Put simply, you or I would not be permitted to accumulate combined IRA and employer plan assets greater than an amount which—when applying an actuarial formula—would yield an annual payout at retirement age greater than the maximum that can be paid out from a defined benefit (DB) pension plan. That limit is $205,000 for 2013. The amount would be indexed to inflation, as is the maximum annual DB plan benefit.
There are administrative complexities to this proposal, to be sure, such as determining when a taxpayer’s limit has been reached, the effects of investment gain or loss on contribution eligibility, consequences of breaching the cap with an otherwise-eligible contribution, and more. But, beyond such details is the larger issue of the philosophy behind it, and the consequences—intended and otherwise—of such a proposal.
Philosophically, should government be telling taxpayers how great or how limited their assets should be upon entering retirement? Taxpayer circumstances differ greatly, as do their commitments, responsibilities and aspirations, both during working years and upon actual retirement. The assets needed to meet these responsibilities and realize these aspirations must naturally differ, too.
The counter-argument is likely to be that everyone is free to save as much for retirement as they are able to, but may have to do it without the benefit of a tax Code incentive, which tax-preferred retirement saving programs give them. While this may sound reasonable, the reality seems to be that without tax incentives retirement savings suffer. For example, many will recall the Taxpayer Relief Act of 1986 (TRA-86) and the restrictions it placed on Traditional IRA deductions. Those participating in an employer-sponsored retirement plan, or who were married to someone who was, had to consider their income when determining their eligibility for a deductible IRA contribution. IRA contributions fell by about 50% in one year starting with the first year tax incentives were not available. This seems to be pretty clear and convincing evidence that tax incentives do matter.
While the TRA-86 changes resulted in less savings, at least the changes were prospective ones that did not penalize taxpayers for past saving behavior. The president’s proposal can be viewed as penalizing past behavior, in effect asking many who have saved diligently and invested well to recalibrate the vision they have for retirement. While others who are similar in age, income, profession, or some other parameter can continue to save the maximum amounts permitted under the Internal Revenue Code, those with larger accumulations will be required to stop saving in a tax-advantaged manner. The rules will have been changed in the “middle of the game” for many who have played the game fairly and well.
There is also the matter of employer incentives for maintaining retirement plans, which benefit many thousands of rank-and-file workers who may never accumulate enough to be affected by the proposed cap. When an employer reaches the maximum accumulation and must restrict future contributions, will he or she continue to sponsor a plan that only benefits the rest of the workforce? And what about the loss of capital formation, which is the outcome of saving of all kinds? While the largest share of U.S. retirement assets are now in capital-rich IRAs, the lion’s share did not originate as IRA contributions, but as contributions to employer-sponsored plans, whose balances were ultimately rolled over to IRAs. The employer-sponsored plan is the goose that has laid many golden eggs.
It is unlikely that President Obama’s complete budget proposal will be accepted as-is, or will progress to legislation and become law in current form. The Republican-led House and Democrat-led Senate have adopted their own budgets, neither of which matches the one proposed by President Obama. Following hearings on the president’s budget by each body, compromise is inevitable if any budget resolution is to be adopted; there may not even be a consensus budget achieved this year.
Nonetheless, laws begin life as proposals, and “parts” from multiple sources can become assembled into a legislative whole sometimes unrecognizable in its origins. Not entirely unlike sausage making, as the saying goes. Now is the time to make sure that the budget ingredients are not harmful to the mission of encouraging retirement saving. Harmful, as we believe this particular ingredient to be.
