Camp and Obama Gang up on Savers

March 06, 2014

As he did in last year’s budget, President Obama has called for a cap on retirement accounts, even though the personal savings rate in America hovers in the low single digits. Obama has added a provision to encourage employers to auto-enroll employees in IRAs, which may boost saving among low-income earners but won’t fully offset the damage to the overall savings rate from the cap on retirement accounts. That’s because there is much more money at stake in the existing retirement accounts. This is what I wrote about the retirement account cap last year, which still applies:

Apparently, the $3 million cap would affect about 1 percent of retirement accounts, directly.  But it would affect a much larger percentage of dollars invested, directly, and it would essentially affect all investors indirectly through lower asset prices. As after-tax investment returns go down, we can expect lower investment, lower saving, and through that, lower economic growth.

The Heritage Foundation and many others also criticized the idea:

IRAs, 401(k)s, and other tax-advantaged savings vehicles are major improvements over the tax code’s basic treatment of savings, but they maintain much of the savings bias in the tax code, because annual contributions to them are capped. And savers may only withdraw the money after turning 59 ½ or face penalties. Taxpayers wanting to save above these limits (or those who wish to withdraw for purposes other than retirement, such as buying a home) face the tremendous bias imposed by taxes for doing so.

Congress should allow taxpayers to save as much as they can every year tax-free for any purpose with no cap on the total value of their savings. They would pay tax only when they withdraw their savings to spend for whatever purpose they choose.[5]

As an intermediate step, rather than institute President Obama’s misguided cap, Congress should raise—or, better yet, eliminate entirely—the annual caps on contributions to retirement savings plans.

As a result, the cap went nowhere in Congress. This year, however, the idea of putting further limits on retirement accounts has become bipartisan. Chairman Dave Camp’s (R-MI) tax plan limits annual contributions to 401(k)s to half the existing limit, reducing it from $17,500 to $8,875. The remaining half may be put into a Roth retirement account, which means it is taxed up front but the returns are tax free. While this is equivalent treatment for those who are indifferent between the two types of retirement accounts, many savers are not indifferent, say because they are in a high tax bracket now and don’t expect to be at retirement.

Also, Camp takes away the inflation indexing of these limits for 10 years, resulting in a real decline in the caps. So with inflation picking up over 10 years, as is expected, these limits could affect millions of savers and do real harm to the nation’s already low saving rate.

These are dangerous policy proposals which undermine past efforts to reduce the double taxation of saving and investment inherent in the tax code, i.e. the taxation of wages first and then the taxation of the returns to savings from those wages. Camp would worsen this double taxation to reduce tax rates on wages, essentially shifting the tax burden from labor to capital - not good for long-run growth. Obama would worsen double taxation to increase spending on questionable new programs, which is clearly bad for growth.

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