Retirement issues likely to dovetail with tax reform in 2013

The Washington outlook for retirement and investment policy in 2013 can be summed up in one word: revenue.

The Jan. 1 short-term fix for the fiscal cliff of expiring tax cuts and looming budget cuts leaves big-ticket items like tax reform and a daunting federal budget deficit on the table. As 2013 gets under way, “you've got a busy 100 days of big-picture stuff,” said Brian H. Graff, CEO and executive director of The American Society of Pension Professionals & Actuaries in Arlington, Va.

Groups representing the retirement industry expect that Congress' attempt at the first major tax code overhaul since 1986 “is going to suck all the air out of the room,” said Kathryn Ricard, senior vice president of retirement policy for the ERISA Industry Committee in Washington. Beyond tax reform, “it's a pretty short list for retirement.”

That means the tax-deferral advantage for retirement savings will get plenty of attention in tax-reform talks, welcome or otherwise. “I don't think retirement is going to be untouched,” said Michael Falcon, managing director and head of retirement, Americas, for J.P. Morgan Asset Management, New York. “People are looking at big pots of money, and retirement deferral is a big pot of money.” It's different in this round of tax talks “because the system is growing up” and the amount of deferred tax revenue has grown with it.

Retirement industry lobbyists have dedicated lots of energy to educating members of Congress and their staffs on the distinction between tax deferrals and outright tax deductions, but realize the budget scoring method simply doesn't factor in taxes paid later.

“At the end of the day, there is a practicality. The math is what the math is,” said Mr. Falcon. President Barack Obama's fiscal 2013 proposed budget estimated that during the next five years alone, retirement tax deductions taken by employers and individuals add up to $429 billion in lost tax revenue.

Like the 1986 tax reform, which cut the deductibility of 401(k) contributions by 70%, many observers think one likely outcome in the current hunt for more federal tax revenue could result in limits on tax deductions of retirement plan contributions for upper-income earners.

“There is no question that there is going to be an examination of fairness,” said Karen Friedman, executive vice president and policy director of the Washington-based Pension Rights Center. “We should make tax subsidies work better” to encourage more retirement savings.

Jamie Kalamarides, senior vice president for institutional investment solutions with Prudential Retirement, Hartford, Conn., agrees. “Everything is under consideration when you reform taxes. However, I also have a high degree of confidence that there is bipartisan support for retirement. Everyone realizes that a dollar saved today is a good thing for the future of America. The question is, how much tax revenue do they want to dedicate to it?”

Another target is carried interest for private partnerships. Changing the level at which it is taxed to the ordinary income rate of 35% from the current 15% capital gains rate could produce $13 billion in tax savings over 10 years. Defending that, said Steve Judge, president and CEO of the Private Equity Growth Capital Council in Washington, “is going to take an awful lot of time and energy” as revenue hunters scrutinize carried interest and other investment-related tax treatments on partnerships and credit financing.

While the Jan. 1 fiscal cliff deal kept carried interest as capital gains, it hiked the tax rate to a Clinton era 20% that, combined with a new 3.8% tax surcharge on net investment income of high-income earners to pay for universal health care, amounts to a 58% tax hike for capital gains, Mr. Judge noted.

If there is any time and energy left, Senate Health, Education, Labor and Pensions Committee chairman Tom Harkin, D-Iowa, hopes to hold hearings on his proposal for a universal private retirement system with professional money management.

The potential for more tax revenue by reducing retirement tax incentives puts even more pressure on policymakers to do more to encourage more retirement savings, and increase awareness of lifetime income planning. Mr. Graff of the ASPPA made clear how challenging that will be, noting “lifetime income isn't going to be much if they eliminate the deduction.”

Federal agencies including the departments of Labor and Treasury have devoted more staff resources to studying and developing ways to achieve the goal of greater savings for retirement and the need to create lifetime income. The first tangible result of the effort is likely to be guidance from the Labor Department on how to present lifetime income projections on participant statements.

“We're pretty encouraged that we're going to get guidance that allows us to give people a view of what they can achieve with the right savings and retirement behavior,” said J.P. Morgan's Mr. Falcon. “I'm optimistic that we're going to get some good news. To us, it's an industry best practice.”

The Labor Department's next action is expected to be a reproposed fiduciary rule. The department's first effort was sent back to the drawing board in 2012 amid protests over a lack of cost/benefit analysis and a general sense of alarm over how far-reaching the original proposal seemed.

This time, the DOL “certainly reached out,” said Mr. Falcon, “but our concern remains making sure that plan participants get access to the right information and advice. We want to make sure that the intent of any regulation is to get people engaged in healthy behavior.”

Regardless of what the new rule looks like, said Prudential's Mr. Kalamarides, “it will cause advisers and record keepers to evaluate. The guiding principle will be to avoid any perceived conflict of interest.”

At the Pension Benefit Guaranty Corp., Director Joshua Gotbaum has lots of ideas for regulatory change in the new year. Seven years after the last round of pension legislation, “2013 could be a good opportunity for Congress to revisit guidelines for plan sponsors in both defined benefit and defined contribution,” said Mr. Gotbaum.

In December, Mr. Gotbaum named Sanford Rich to head a redesigned negotiations and restructuring unit within the PBGC that intends to be more proactive working with companies going through business changes. The unit will work to reform of the agency's role in protecting pensions of companies facing or going through bankruptcy. Mr. Rich was a managing director at Whitemarsh Capital Advisors LLC, New York.

Mr. Gotbaum was also emboldened by a November report from the Government Accountability Office telling Congress to consider the PBGC's request to switch to a more risk-based premium structure. And he welcomes a call by employer groups for Congress to review the agency's finances before allowing further premium changes. PBGC officials will also work with the House Education and Workforce Committee on ways to help struggling multiemployer pension plans as they face expiring funding and amortization extension rules in 2013.

Officials at the Securities and Exchange Commission also are working on a fiduciary standard for advisers, and will reach out for public comment on the cost/benefit analysis needed to advance the idea toward a final rule, at some point. With Elisse Walter stepping in as chairwoman and creating a split commission — two Republican and two Democratic commissioners — and a Dodd-Frank rulemaking backlog, nothing is expected to happen quickly. At this point, said Mr. Judge of PEGCC, “it's harder (than a typical year) to tell the regulatory agenda.”

Officials at both the SEC and the Commodity Futures Trading Commission will be working on lots of related regulations dictated by the Dodd-Frank Wall Street Reform and Consumer Protection Act.

High on the wish list for hedge fund managers are anticipated regulations clarifying how business can be conducted now that a 2012 law lifted the ban on solicitation by hedge funds and other private funds. “Our members are eager to see the SEC approve final rules along the lines it proposed, to facilitate greater transparency and competition in the marketplace,” said Stuart J. Kaswell, executive vice president, managing director and general counsel of the Managed Funds Association, Washington.