Did You Know That Some People in Washington Are Trying to Take The Tax Benefits Away From Your 401k Plan?
By Jeremy on Oct 16, 2008 with Comments 48
If you currently save in an employee-sponsored retirement plan, how would you feel if you stopped getting a tax break on your contributions? What if your employer stopped matching because they lost their tax break to do so? On top of that, what if you were forced to contribute 5% of your pay into government bonds regardless of age?
I don’t know about you, but the only real reason I do contribute to a 401(k) is because of the tax benefits. Otherwise, there would be no incentive to save in an account that has limited investment choices and an annual cap on what I can add to it each year. If I wanted to invest more money, have unlimited investment options, and be unable to deduct my contributions, I’d just stick to a brokerage account. The only thing I’d lose is the tax-deferral, and from what I’ve read, that may be gone too. They say we’re struggling as a nation to save money, yet the brilliant people in Washington are thinking about eliminating one of the few benefits to encourage saving.
Basics of the Plan
The biggest concern with this idea is the elimination of the tax benefits. They want to make it so your contributions are taxable. From the sketchy details I’ve seen so far, it looks like the tax deduction on contributions is gone, and possibly even the deferment of taxes on earnings. From the article:
The current system of providing tax breaks on 401(k) contributions and earnings would be eliminated.
To compensate for removing the tax breaks, they suggest giving people an inflation adjusted $600 subsidy. Gee, thanks!
In addition to the elimination of tax breaks, the plan calls to make contributions mandatory. Now, I’m all for encouraging people to save money, but making 5% mandatory doesn’t sit well. We already have a mandatory retirement contribution that we all make, and it’s called Social Security. How about they fix that before dictating that people have to contribute another 5%.
On top of the mandatory 5% contribution, the best part is that the 5% would have to go into government bonds. From the article:
The money in turn would be invested in special government bonds that would pay 3% a year, adjusted for inflation.
What’s so “special” about these bonds? The fact that they don’t even keep pace with inflation? Hey, sign me up!
This Would be Administered by Social Security
I wish I could make this stuff up. But since the government wants to put their hand in our private retirement savings, make contributions mandatory, and invest them in government bonds that don’t even keep up with inflation, they want the Social Security Administration to manage it. Yep, you know, the program that’s in trouble and politicians have been talking about reforming for the past few decades. Obviously, they are the perfect candidate for the job.
What I don’t get is why you need to change the way 401(k) plans work just to give Social Security the option of managing a portion of people’s money. We already pay into the Social Security system, so let’s address how that works before going in and sticking your hands in one of the only viable private investment options out there.
Also, who says that this won’t run just like any other government program where your money doesn’t really go into an account, but it instead goes into some magical trust fund that’s nothing more than a line item on a balance sheet. The government will gladly use your money for whatever wasteful purpose it wants, and only keep track of what they owe you, only to find out in 30 years they don’t have enough money to pay everyone back, and need to print even more money.
Government Bonds and Annuities
The best part of this plan (notice the sarcasm) is that everyone would be forced to lend 5% of their income to the government. Yes, everyone who earns a paycheck would be required to put that money into government bonds, which is just a way to lend them money. No wonder politicians are pushing for this idea. It isn’t because they want to force people to save more, or protect their retirement investment. No, it’s because it would instantly give the government billions of dollars every year.
Congress should let workers trade their 401(k) assets for guaranteed retirement accounts made up of government bonds, suggested Teresa Ghilarducci, an economics professor at The New School for Social Research in New York.
When workers collected Social Security, the guaranteed retirement account would pay an inflation-adjusted annuity under her plan.
Congress should let workers trade in their 401(k) assets for a guaranteed retirement account? Maybe if it is an option, that would be acceptable. Obviously, some people want security of their money, so I say, make that an option. But in no way should that be forced upon everyone.
To make matters worse, they want to pay out your money in the form of an annuity. Hey, we forced you to save, we didn’t pay you hardly anything in interest, and now that you’re retired, we’re going to hold onto your money for another 30 years while we collect more interest and give you a fixed monthly payment. One of the other benefits of a 401(k) is the flexibility of distributions, and they want to remove this aspect (at least on the mandatory funds). Nobody knows what their future holds, their health, or their retirement ambitions, but to take away the option of letting someone withdraw their money as they see fit after saving for years is just horrible.
What Do You Think?
I’m surprised I just heard of this, but I immediately felt my blood pressure rise after reading it. I can see why some of this looks like a good idea on the surface, but trying to address it with the changes that are being proposed seem almost criminal. But that’s just me, what about you? Good idea? Bad idea?
Related posts:
- How to Tell if You Have a Bad 401k Plan
- Understanding Social Security Disability Benefits – Who’s Eligible and How it Works
- Where Do Your Social Security Tax Dollars Go?
- Poll: What Will be the Status of Social Security When You Retire?
- Obama’s Economic Rescue Plan Would Allow Penalty-Free Withdrawals up to $10,000 This Year and Next From Retirement Accounts
Filed Under: Investing
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“Social Security is NOT in crisis. It is solvent through at least 2040 (in the most conservative scenario), and will continue to take in more than it pays out for another 5-10 years.”
Well, in my opinion, that’s a crisis because I’ll be paying into Social Security my entire life (I’m 23 years old) and at the end of it I’ll get a John Doe letter… “I’m sorry, dear taxpayer, but your faith in us as stewards of your Social Security dollars was misplaced. Your money’s all gone, we’ve moved out of the building. Later.”
P.S. Granted, I’m not relying on Social Security, but that’s a 6.x% drain on my salary from here on out.
You expected something different from the Democrats?
Vote Republican.
It’s time for a viable third party. Republicans and Democrats alike need to be replaced and term limits put in place. We also need personal asset limits for anyone in congress to avoid personal interest over the citizens.
if the democrats win in house and senate this guy Mcdermit is going to push hard for this
I do believe if we end up with a super majority with Democrats with no checks and balances we will be in big mess with these kind of policies. I wish I had the option to go ahead and pay taxes on my 401k now. It would probably be less than when I would need it for retirement. My dad gets so upset every year when he has to pay on his because he is taxed higher now than when he actually earned the money. And yes, they are looking at this seriously. I believe they would be waking a sleeping giant with these kind of ideas that they want to make reality.
Why is it that the Beatles came to mind…..”Say You Want A Revolution, Yea Yea You Know…..”
Great post though!
Supreme Court anyone? This is completely unconstitutional.
Just a simple statment. We are on the road to “spreding the wealth around” of the genXer. See the beauty of this plan is that it can be spun to save people from their self destructive ways. If I am reading this statement correctly, she is suggesting that someone could get closer to retirement saving 5% per year @3% interest rate which with compoounding would double your money in 15 years. What are these “Special bonds” Are these the “save medicare” bonds. I wonder if inflation will be headline inflation which was just 2.3% while gas doubled. This is a bad idea, unless they decided to take 5% of the 15% coming from SS tax to lay into and account that would be yours at 59 1/2.
“Under Ms. Ghilarducci’s plan, all workers would receive a $600 annual inflation-adjusted subsidy from the U.S. government but would be required to invest 5% of their pay into a guaranteed retirement account administered by the Social Security Administration. The money in turn would be invested in special government bonds that would pay 3% a year, adjusted for inflation.”
Tom
OVER MY DEAD BODY!! THE GOVT. HAS NO BUSINESS IN MY 401K. I WILL SHOW IN D.C. AND ASK THESE OUT OF TOUCH POLITICIANS WHAT THE HELL ARE YOU THINKING!!! IT IS MY MONEY, I SAVED IT, DONT TOUCH IT!!
onother sign freedom is an illusion!welcom to socialism!
Jim, it all depends on who is on the supreme court and how the constitution can be pushed. I doubt this will occur, but a constitutional convention would be a disaster!! In between the ** is where I disagree with president elect Obama.
From his 2001 transcript:
http://www.foxnews.com/urgent_queue/#50041ecb,2008-10-27
but the supreme court never ventured into the issues of redistribution of wealth and sort of basic issues of political and economic justice in this society and to that extent as radical as people try to characterize the warren court it wasnt that radical 40;30 it didnt break free from the essential constraints that were placed by the founding fathers in the constituion at least as it has been interpreted and the warren court interpreted it generally in the same way **that the constitution is a document of negative liberties 40:43 says what the states cant do to you says what the federal govt cant do to you but it doesnt say what the federal govt or state govt must do on your behalf** and that hasnt shifted and i think one of the tragedies of the civil rights movement was that 41:01 the civil rights movement became so court focused i think there was a tendency to lose track of the political and organizing activities 41:12 on the ground that are able to bring about the coalitions of power through which you bring about redistributive change 41:20 and in some ways we still suffer from that
Ugh. My apologies for the sentiment, but reading these comments almost makes me wonder who’s actually following the news, vs parroting talk radio.
Just to pick one:
Wow, this has got to be one of the worst proposals for the average taxpayer in recent history. This defeats teh purpose of a 401(k).
First, it isn’t a bill, it was testimony. There is nothing to “pass.”
Second, do you know how well the “average” 401k investor does? I’m talking actual return, after 2% fund expense ratios, 401k plan fees (do you even know what yours are? It’s difficult info to get), the buy high and sell low plan, and the extended use of the “stable value” funds? Hint: it’s less than you’d expect, some would do better in bonds.
Third, what is the purpose of the 401k? Congress created the tax-deferred plan (actually converted it from a package tailored to corporate executives) for retirement savings to supplement social security. The tax deferment is the carrot to get you to save and not be a burden on society later.
I’d be just as happy if congress put this plan in place and erased the 401k tax deferment. If you’re smart, you’re already using index funds in your 401k, they are already relatively tax efficient. And assuming it would work like a pension or annuity, this plan would be a great way to diversify risk.
You could diversify out to handle (major) types of risk:
1) social security – political risk
2) stock market – volatility risk
3) bond market – deflation risk
4) govt sponsored annuity – inflation risk
Without this, I’d have to buy into an inflation-adjusted immediate annuity when I retire to cover bare bones living expenses – but then I’d run the risk of having the insurance company blow up because of bad management.
Like I said above, all this assumes that the government lets private parties run the funds (albeit with strict requirements). Otherwise, I’d have political risk in two legs of the stool.
Anyway people, please think!
Anon –
I think if you listen to both talk radio and the news you will be barely informed enough to vote. With your table of 4 your missing some risk. 1) social security yes its political, but its also inflation risk. 3) Bond Market has just as must volatility risk as the stock market. It too has inflation risk. 4) Yes it has inflation risk and political risk. Your 401k has political risk. Correct we are not Argentina, but they all thought their private pensions were safe from the hands of government.
Details would be the key to this plan.
Could you be means tested out of the annuity? Just like you will be with SS.
1) Would the 5% savings tax be based on gross, after tax or income tax?
2) Would it be extracted from you pay check pretax?
3) Would I still pay this savings tax on passive income?
4) Would I pay this savings tax on SS distributions and Roth IRAs?
5) Would the GSA (government sponsored annuity) start paying at 60, 65, 70, 75, 80 or based on your life expectancy.
6)Would it be distributable in a lump sum?
7)Would you be able to heir it to a spouse or child? Or would it die with you?
These are just some of the question off the top of my head.
WOW!! how’s that HOPE and CHANGE thing workin out?
one step closer to the socialist workers paradise that the great and powerfull “O” promised us
I love the advertisement at the top of the page – Why Open an IRA with Schwab? Well, at this point, why open an IRA at all? If these congresspeople in who devised this intelligent idea have anything to do with it, they’ll take away the tax benefits for IRAs and make us put that money into the socialst network as well.