Incoming House Majority Leader Richard K. Armey's proposal to revamp the American income tax system could accelerate the growth of 401(k)s and other defined contribution plans, as well as individual retirement accounts and Keoghs for the self-employed.
Mr. Armey's proposal to restructure the tax system, one of many floated by Republicans in recent months, is being seriously considered by the new congressional leadership, some Republican advisers say.
The Texan Republican's proposal, aimed at lifting the nation's anemic savings rate, would remove limits on the amount of money workers can contribute to all such accounts.
The former economics professor's proposal also could stimulate the nation's capital markets by eliminating all taxes Americans pay on income from stocks, bonds, real estate and other investments, as well as on the sale of appreciated holdings.
Instead of the current system, where contributions to tax-deductible retirement accounts are capped and withdrawals are taxed, Mr. Armey would allow for the creation of unlimited 401(k)s or IRAs where the ultimate withdrawals are tax-free, but contributions would not be sheltered from taxes. The investment income would continue to be tax free.
After-tax contributions to these retirement accounts would grow at the same rate (assuming the tax rate down the road will remain the same) as upfront tax-deductible contributions that are taxed upon withdrawal.
But some employee benefits consultants voiced concern the proposal could endanger the security of retirement income for millions of Americans by forcing them to make uneducated choices about investments.
"It does enhance individual freedom of investment, but it also would leave some individuals in the lurch," said Frank McArdle, manager of the Washington office of Hewitt Associates.
At the same time, Mr. Armey's "Freedom and Fairness Restoration Act" is unlikely to dampen employers' enthusiasm for setting money aside in traditional pension plans for their workers' retirement, even though it would slash the corporate tax rate to 17% from the current 34%, pension policy experts say.
"We have created the expectation that the major portion of most employees' retirement income will come from an employer-sponsored plan, and I don't see how changing the IRS code will change that expectation," said Richard Belas, a partner in the Washington law firm of Davis & Harman. Mr. Belas was tax counsel to incoming Senate Majority Leader Robert Dole, R-Kan., in the 1980s.
Moreover, retirement benefits are an essential component of the employee compensation package, and companies would have to give workers more cash or other benefits if they eliminate pensions, contends Sylvester J. Schieber, director of research at The Wyatt Co., Washington.
"I don't see corporations closing down their pension funds, but they might add a defined contribution plan to what they are doing because .*.*. there will be no ceiling to how much money you can contribute," said Laurence J. Kotlikoff, an economics professor at Boston University.
Professor Kotlikoff has done numerous studies of retirement income.
"I like Armey's plan. Armey is trying to encourage savings, God bless him," Professor Kotlikoff remarked.
Jim Kaitz, a lobbyist in the Washington office of the Financial Executives Institute, a group representing the nation's largest corporations, said the plan deserves credit for encouraging savings, but could have implications for retirement policy.
"It sounds like a great idea in a campaign promise, but it gets a lot more complicated when you think about it. That's not to say we wouldn't support it, but we would have to do a great deal of analysis before you get to the point where you say this is the right way to go," Mr. Kaitz said.
But Mr. McArdle warned expanded IRAs and other retirement savings accounts could result in reduced employer sponsorship of retirement plans.
"People should not assume they would get expanded IRAs on top of employee plans, and that tension is reflected in the Armey plan," Mr. McArdle pointed out.
Rep. Armey introduced his tax reform bill in the House June 16, but it was not until after the elections that his flat-tax proposal received much attention. He also helped draft the House Republicans' Contract with America.
He probably offered the latter as a short-term fix for the nation's tax system, while reserving his flat-tax proposal as a way to "scrub the system and start all over again," said Norman B. Ture, president of the Institute for Research on the Economics of Taxation.
The Washington-based conservative think-tank has been working closely with the new Republican congressional leaders, and has examined Mr. Armey's proposal, as well as others for redoing the U.S. tax system.
But Washington insiders say it could be years before such a plan passes Congress. Some say Mr. Armey's suggestion that the plan will pass in three years is optimistic.
And, it is unlikely the proposal would progress easily through Congress because many Democrats generally do not support a flat-tax system, which has been proposed many times.
It also is not clear if President Clinton would sign such a bill, even if it passed Congress.
At the core of Mr. Armey's proposal is a flat income tax system that would eliminate virtually all tax deductions for individuals and replace them with a generous personal and dependent allowance. Beyond that, all Americans would simply pay 17% of their remaining income in taxes.
The flat income tax would be 20% in the first year, in part to reduce the amount the government would lose initially through such a tax structure.
The proposal would cost the U.S. Treasury up to $40 billion in the first year, said Andrew A. Laperriere, Mr. Armey's legislative assistant.
Revenue losses would be made up through cuts in federal spending, he explained.
Under Mr. Armey's plan, Americans would not have to pay taxes on investments in stocks, bonds, real estate or other assets. Similarly, corporations and other businesses would deduct business expenses from gross revenues and pay 17% of the net income as taxes.
Businesses would be allowed to deduct their payroll expenses, capital expenditures on plants and equipment, as well contributions to pension funds and retirement plans.
Employers, however, would lose their deductions for "fringe" employee benefits such as health care.
Dividend income paid to shareholders would continue to be paid from after-tax income.
And employee stock options might lose some of their appeal under the plan.
Executives who receive them would have to count their intrinsic value as part of their taxable compensation package, although they would not have to pay any taxes on their appreciated stock holdings, Mr. Laperriere explained.