Despite emerging unscathed from an initial review by a House committee, tax incentives for retirement savings could be curbed or eliminated as part of comprehensive tax reform and deficit reduction, prompting concern from Putnam Investments CEO Robert Reynolds.
Last Tuesday, Democrats and Republicans on the House Ways and Means Committee expressed support for provisions of the tax code that allow workers to put money into 401(k) and individual retirement accounts on a tax-deferred basis.
But the special treatment is under pressure as Congress takes the first small steps toward tax reform. The bipartisan mantra for reform is to lower rates and broaden the base.
Doing so likely would require slashing many popular tax deductions, credits and exemptions, along with the special tax breaks for retirement programs such as 401(k) plans. Collectively known as tax expenditures, they have the effect of lowering federal tax revenue.
Mr. Reynolds remains concerned that lawmakers don't understand that retirement savings programs create a tax deferral, not a tax exclusion.
The distributions retirees eventually take will be taxed as ordinary income, though presumably at a lower rate.
“As long as you consider retirement savings a tax expenditure, which it is not, I'm very, very guarded,” Mr. Reynolds said. “You don't rest until tax reform is in place and the tax deferrals for retirement savings are protected.”
The latest threat comes from a tax reform plan offered in the budget written by Rep. Paul Ryan, R-Wis., that the House approved last month. He would streamline the six tax brackets to two and lower the top rate to 25%, from 35%.
The proposal would require the elimination of many tax expenditures but doesn't identify which ones.
The retirement savings incentives are among the biggest in the tax code. Defined contribution plans are expected to cost the government $375.9 billion over the next five years, according to the congressional Joint Committee on Taxation.
But last Tuesday, lawmakers on the tax-writing Ways and Means Committee appeared reluctant to jettison them.
“You do not have to eliminate all expenditures to get to that (25% top rate) level — not at all,” Ways and Means Chairman Dave Camp, R-Mich., told reporters after the hearing.
Employer-sponsored DC plans hold about $4.5 trillion in assets.
One of the most important parts of the current tax treatment of retirement savings is the provision that allows people over 50 to contribute up to $22,500 annually to a 401(k) plan — $5,500 more than the $17,000 limit for everyone else.
Even if Congress doesn't eliminate retirement savings tax deferrals, it might limit them as it looks for ways to pay for tax reform and reduce the burgeoning federal deficit. The presidential deficit commission in 2010 suggested capping retirement contributions at $20,000 or 20% of income, whichever is higher.
That idea doesn't sit well with Mr. Reynolds, as he said it could undermine the incentive for small-business owners to set up DC plans.
Currently, the maximum 401(k) contribution per employee is $50,000, if an employer also contributes.
“I'm afraid that smaller companies would eliminate (the plans), rather than take on the cost,” Mr. Reynolds said.
Rep. Sander Levin, D-Mich., the ranking Democrat on the House Ways and Means Committee, echoed advisers' concerns about retirement savings tax deferrals being in the cross hairs of tax reform.
“My objection is that Republicans came out with a figure of 25% (top tax rate) without talking about the consequences of how to get there,” Mr. Levin told reporters last week after the hearing. “It undermines the notion that you can get rid of (tax) preferences without getting rid of important policy.”
Mark Schoeff Jr. is a reporter at InvestmentNews, a sister publication of Pensions & Investments.